Vowi-Tagung 2002 1..311

vowi-tagung_2002 umschlag 14.10.2002 13:46 Uhr Seite 1

√ √ √ Oesterreichische Nationalbank Oesterreichische Nationalbank

30. Volkswirtschaftliche Tagung 2002 30th Economics Conference 2002

Wettbewerb der Regionen und Integration in der WWU Competition of Regions and Integration in EMU Economics Conference 2002 Conference Economics th 30. Volkswirtschaftliche Tagung 2002/30 Tagung 30. Volkswirtschaftliche Inhalt Contents

Klaus Liebscher Wettbewerb der Regionen und Integration in der WWU — Ero‹ffnungsrede 5 Wol f g a n g S c h u‹ ssel Ero‹ffnungsrede 9 Klaus Liebscher Conference Opening (continued) 17 Heinrich Neisser Institutional Arrangements of the European Union — Scenarios for the Future 23 Willem F. Duisenberg The Euro as a Catalyst for Integration and Competition in EMU 35 Anthony M. Santomero The U.S. Experience with a Federal Central Bank System 47

Tagungsblock 1: Institutionelle Strukturen auf regionaler Ebene Session 1: Regional Institutional Structures Tito Boeri Does Europe Need a Harmonised Social Policy? 55 Fritz Breuss Comments on Tito Boeri, Does Europe Need a Harmonised Social Policy? 67 Hans-Werner Sinn The New Systems Competition 77 Gareth D. Myles Comments on Hans-Werner Sinn, The New Systems Competition 93

Tagungsblock 2: Podiumsdiskussion Finanzpolitik: Spielraum fu‹r regionale Finanzinstitutionen? Session 2: Financial Policy Panel: The Scope for Regional Financial Institutions Gertrude Tumpel-Gugerell Introductory Remarks 104 Dirk Bruneel The International Strategy of Dexia 106 Reinhard Ortner Erste Bank Group in Central Europe — The Background of an Austrian Success Story 115 Albrecht Schmidt Comments for the Panel Discussion on the Scope for Regional Financial Institutions 125 Axel A. Weber Comments for the Panel Discussion on the Scope for Regional Financial Institutions 129

Tagungsblock 3: Die Rolle der nationalen Zentralbanken im Europa‹ischen System der Zentralbanken Session 3: The Role of National Central Banks Within the European System of Central Banks Klaus Liebscher The Role of National Central Banks Within the European System of Central Banks — Introductory Statement 135 Jean-Claude Trichet The Eurosystem: The European Monetary Team 139 David G. Mayes Comments on the Theme The Eurosystem: The European Monetary Team 151 Richard Portes Comments on Jean-Claude Trichet: The Eurosystem: The European Monetary Team 159

2 Inhalt Contents

Gertrude Tumpel-Gugerell The Role of National Central Banks Within the European System of Central Banks — Introductory Statement 165 Arnout H. E. M. Wellink The Role of National Central Banks Within the European System of Central Banks: The Example of De Nederlandsche Bank 169 Peter Bofinger Comments on Arnout H. E. M. Wellink, The Role of National Central Banks Within the European System of Central Banks: The Example of De Nederlandsche Bank 189 Paul De Grauwe Comments on Arnout H. E. M. Wellink, The Role of National Central Banks Within the European System of Central Banks: The Example of De Nederlandsche Bank 197

Tagungsblock 4: Regionale Finanzstrukturen Session 4: Regional Financial Structures Christian de Boissieu The European Industry and the Organization of Banking Supervision in Europe 205 Urs W. Birchler Comments on Christian de Boissieu, The European Industry and the Organization of Banking Supervision in Europe 219 Olivier Lefebvre Regional Stock Exchanges — Is There a Future? 225 Stefan K. Zapotocky The Challenges and Chances of Regional Exchanges 235

Tagungsblock 5: Podiumsdiskussion: Regionale Wirtschaftsstrukturen — Wie viel Divergenz ist tragbar? Session 5: Panel: Regional Economic Structures — How Much Divergence Is Sustainable? Gertrude Tumpel-Gugerell Introduction 250 Alexander Italianer, Oliver Dieckmann Are Divergent Macroeconomic Performances in a Monetary Union a Reason to Worry? 252 Richard Portes Comments on Alexander Italianer and Oliver Dieckmann, Are Divergent Macroeconomic Performances in a Monetary Union a Reason to Worry? 269 Sinikka Salo Regional Policies and Differences in Economic Structures 272 Gerhard Schwo‹ diauer Ought We to Worry About Regional Divergence in the European Monetary Union? 276

Gertrude Tumpel-Gugerell Concluding Remarks 287

Franz-Weninger-Stipendien Franz Weninger Award 293

Die Vortragenden Speakers 295

3 Klaus Liebscher Klaus Liebscher Gouverneur, Oesterreichische Nationalbank

Wettbewerb der Regionen und Integration in der WWU

Ero‹ffnungsrede

Die Volkswirtschaftliche Tagung findet heuer bereits zum 30. Mal statt; mit diesem bemerkenswerten Jubila‹um nimmt die Oesterreichische National- bank (OeNB) mit Sicherheit eine au§erordentliche Stellung unter jenen nationalen Zentralbanken ein, die derartige Veranstaltungen organisieren, und es ist auch ein geeigneter Anlass fu‹r einen kurzen Blick in die Ver- gangenheit. Im Mai 1973 kamen 17 OeNB-Mit- arbeiter und acht geladene Ga‹ste in der Krainerhu‹tte inder Na‹hevon Badenbei Wien zur ersten Volkswirtschaftlichen Tagung der OeNB zusammen. Auf Initiative und unter dem Vorsitz des damaligen OeNB-Generaldirektors Heinz Kienzl setzte man sich mit dem damals wie heute sehr aktuellen Thema der ªMo‹glichkeiten und Gren- zen der Stabilisierungspolitik aus- einander. Redner aus Deutschland, Schweden und Ungarn gaben schon der ersten Volkswirtschaftlichen Ta- gung eine internationale Dimension. Ab 1975 wurden die Beitra‹ge in Form von Konferenzba‹nden der O‹ ffentlichkeit zuga‹nglich gemacht. Klaus Liebscher

Lassen Sie mich nun einen gro§en schaftspolitischen Relevanz der Bei- SprungvondiesererstenKonferenzzur tra‹ge und in der sta‹ndig steigenden 10. Volkswirtschaftlichen Tagung der Teilnehmerzahl — in diesem Jahr darf OeNB tun, die im Zeichen von ªFor- ich mehr als 350 Ga‹ste hier begru‹§en schung und Wirtschaftswachstum — unter ihnen Repra‹sentanten der Poli- stand. Auch hier wurde, so scheint mir, tik, der Wirtschaft, in- und ausla‹ndi- das Thema treffsicher gewa‹hlt, stellt es scher Banken, der Wissenschaft eben- doch nach wie vor eine zentrale Frage falls des In- und Auslandes, diplomati- der Wirtschaftspolitik sowohl in scher Vertretungen und, was mich be- Europa als auch in O‹ sterreich dar. sonders freut, auch eine gro§e Anzahl Dasselbe gilt auch fu‹r die 20. Volks- von Gouverneuren und Mitarbeitern wirtschaftliche Tagung der OeNB befreundeter Zentralbanken — sie alle im Jahr 1992. Sie war der ªZukunft seien herzlich willkommen gehei§en. Das 30-ja‹hrige Bestehen der Volks- wirtschaftlichen Tagung spiegelt auch drei Jahr- zehnte erfolgreiche o‹ sterreichische Wa‹hrungspolitik in der Post-Bretton- regionaler Finanzma‹rkte in einem inte- Woods-A‹ ra wider. Wie Sie wissen, grierten Europa gewidmet. verfolgte die OeNB wie die Zentral- Wenn Sie einen Blick auf das dies- banken anderer kleiner, offener Volks- ja‹hrigeProgrammwerfen,sosehenSie, wirtschaften niemals ein System frei dass auch diese Frage nichts an Aktua- schwankender Wechselkurse. Die lita‹t verloren hat. Die Tatsache, dass Hartwa‹hrungspolitik, wie die o‹ster- viele der bei unseren Volkswirtschaft- reichische Wa‹hrungspolitik ab den lichen Tagungen aufgegriffenen The- spa‹ten Siebzigerjahren bezeichnet men uns auch heute — Jahre oder sogar wurde, war der o‹sterreichischen Jahrzehnte spa‹ter — noch bewegen, Wirtschaft, im Nachhinein betrach- ko‹nnte einerseits auf den bemerkens- tet, von gro§em Nutzen. Wa‹hrend werten Weitblick der Organisatoren die Anbindung an eine andere Wa‹h- zuru‹ckgefu‹hrt werden. Andererseits rung chon per definitionem impli- kann man wohl auch argumentieren, ziert, dass sich die Zentralbank mit dass wir immer wieder gefordert sind, ihren Gescha‹ften und Analysen neue Antworten, neue Lo‹sungen, auf sehr stark international orientiert, noch nicht bewa‹ltigte Aufgaben und erhielt diese Internationalisierung ab Themenstellungen zu finden. den fru‹hen Neunzigerjahren insbeson- Welche Antwort nun auch immer dere mit O‹ sterreichs Beitritt zur Euro- zutreffen mag, unsere Tagung hat sich pa‹ischen Union, dem Start der Wirt- im Lauf der Jahrzehnte ausgezeichnet schafts- und Wa‹hrungsunion und entwickelt und profiliert. Dies zeigt der Osto‹ffnung neue Impulse. Ich sich auch, so meine ich, in der Liste bin u‹berzeugt, dass die weitere Ent- der hervorragenden Redner, die wir wicklung der EU, des Euroraums heuer willkommen hei§en du‹rfen sound Europas als Ganzen auch weiter- wie in der hohen Qualita‹t und wirt- hin die Zukunft O‹ sterreichs und

6 Klaus Liebscher

der OeNB wesentlich mitbestimmen Schu‹ssel, bei unserer Konferenz be- wird. gru‹§en zu du‹rfen. Natu‹rlich ko‹nnte diese Konferenz Da Bundeskanzler Schu‹ssel im An- nicht ohne die Beitra‹ge einer Reihe schluss anderen terminlichen Ver- au§erordentlicher Redner stattfinden. pflichtungen nachkommen muss, Sehr geehrte Damen und Herren, ich mo‹chte ich an dieser Stelle meine freue mich — und es ist mir eine gro§e Begru‹§ung unterbrechen und den Ehre—denBundeskanzlerderRepublik Herrn Bundeskanzler ans Rednerpult O‹ sterreich, Herrn Dr. Wolfgang bitten. §

7 Wolfgang Schu‹ ssel Wolfgang Schu‹ ssel Bundeskanzler der Republik O‹ sterreich

Ero‹ffnungsrede

Sehr geehrte Damen und Herren! Ich darf Sie sehr herzlich in Wien willkommen hei§en. Es freut mich besonders, den Pra‹sidenten der Europa‹i- schen Zentralbank Wim Duisenberg zu begru‹§en undichmo‹chte diesen Anlass nutzen, um meinen tiefen Respekt vor der Arbeit dieser wichtigen Institution auszudru‹cken. Im Namen aller O‹ ster- reicher und O‹ sterreicherinnen danke ich Wim Duisenberg fu‹r sein Engage- ment fu‹r die europa‹ische Wa‹hrungspolitik, das von Feinfu‹hligkeit und gro§em Verantwortungsbewusstsein gepra‹gt ist. Unddasfu‹hrtmichzuderzentralen Thematik der diesja‹hrigen Veranstal- tung — den Zukunftsperspektiven fu‹r Europa. Erlauben Sie, dass ich zur Ein- fu‹hrung einen o‹sterreichischen Beitrag gebe. Das wahre und einschneidende Ereignis der letzten Monate war nicht eine der diversen aufgeregten, virtuel- len Debatten innerhalb und au§erhalb Europas, sondern vielmehr die Ein- fu‹hrung des Euro am 1. Ja‹nner 2002. Diese Wa‹hrungsumstellung ist eine von der O‹ ffentlichkeit selbstversta‹nd- lich angenommene und aufgenom- mene Erfolgsgeschichte. Der Grund dafu‹r liegt in der professionellen Vor- bereitung. Dazu kommt, dass sich innerhalb von wenigen Wochen und wenigen Tagen die psychologische Akzeptanz der Bevo‹lkerung gegenu‹ber Wolfgang Schu‹ ssel

der neuen Wa‹hrung so verbessert hat, hat. Die langfristigen Wirkungen sind dass der Euro eine perfekte Annahme nicht zu unterscha‹tzen. gefunden hat. Ein besonders scho‹nes Diese Neuorientierung kann nicht Signal fu‹rO‹ sterreich war, dass radikal geschehen, sondern wird Kommissionspra‹sident Romano Prodi schrittweise passieren, wobei diese Sylvester und Neujahr in Wien gefeiert Entwicklung ganz klar in Richtung hat. Mit diesem Besuch und dem Neu- gemeinsamer Regelungen, engerer jahrskonzert, das auch im Zeichen des Bandbreiten auch in den steuerlichen Euro stand, wurde von Wien aus eine Richtsa‹tzen gehen wird. Wichtig ist positive Botschaft dieser europa‹ischen in diesem Prozess eine gemeinsame Wa‹hrung in die ganze Welt gesandt. europa‹ische Au§envertretung. Ein Ich halte das fu‹r wichtig, denn mittler- ho‹chst erfolgreiches Modell der ge- weile ist der Euro in rund 50 La‹ndern meinsamen Bu‹ndelung europa‹ischer eine Leitwa‹hrung. Das zeigt, dass hier Interessen und einer europa‹ischen eine beachtliche zweite Weltleitwa‹h- Stimme gibt es bereits in der interna- rung zur Verfu‹gung steht, die sich tionalen Handelspolitik. Kommissar mit Sicherheit bewa‹hren wird. Positiv Pascal Lamy vertritt in diesem Bereich war auch, dass in O‹ sterreich innerhalb in guter Koordination mit den 15 Mit- ku‹rzester Zeit der Gro§teil der Bar- gliedsstaaten perfekt europa‹ische Inte- geldtransaktionen in Euro abgewickelt ressen. Diese effiziente Bu‹ndelung von wurde. europa‹ischen Interessen wird auch in Wichtig zu erwa‹hnen ist, dass mit den Finanzinstitutionen mittelfristig der Einfu‹hrung des Euro eine noch ein Thema werden. unterscha‹tzte Langfristigkeit verbun- Bei dieser Neugestaltung arbeiten den ist. Eine gemeinsame Wa‹hrung wir auf mehreren Ebenen. Das macht verlangt nach einem voll entwickelten das Thema und den Traum oder die Binnenmarkt. Dieser ist gegenwa‹rtig Vision von Europa auch manchmal sehr zwar in weiten Teilen verwirklicht, kompliziert.DieeineEbeneistjeneder weist aber nach wie vor gro§e Lu‹cken Kommunikation zwischen den natio- auf. Eine gemeinsame Wa‹hrung erfor- nalen Mitgliedsstaaten, den europa‹i- dertaucheineharmonisiertekoha‹rente schen Institutionen und den europa‹i- Wirtschaftspolitik, die u‹ber den Stabi- schen Bu‹rgern. Die zweite Ebene stellt lita‹tspakt, so bedeutsam dieser natu‹r- der europa‹ische Konvent dar, dem fu‹r lich ist, hinausreichen muss. Es bedarf die Zukunft Europas eine besonders vielmehr eines gemeinsamen abge- wichtige Bedeutung zukommt. Denn stimmten Vorgehens in den Offensiv- der Konvent ist eine Plattform, wo frei, bereichen der Wirtschaftspolitik sowie ohne Fraktionszwa‹nge, ohne Bindun- in wesentlichen wirtschaftlichen und gen durch die jeweils entsendenden sozialen Themenschwerpunkten. Gruppierungen u‹ber Optionen, u‹ber Die Europa‹ische Kommission und Bausteine, wie ein ku‹nftiger Verfas- die 15 Mitgliedsstaaten messen bei- sungsvertrag oder ein verfassungsa‹hn- spielsweise der Ausgestaltung der Pen- licher Grundvertrag aussehen ko‹nnte, sionssysteme eine immer gro‹§er wer- nachgedachtunddiskutiertwird.Diese dendeBedeutung bei,dadieser Bereich wichtigen Zukunftsfragen, mit denen massive Auswirkungen auf die Stabili- sich die Konventsmitglieder bescha‹fti- ta‹t, auf die Verteilungswirkung und gen, sind aber zugleich auch sehr sub- damit letztlich auch auf die Wa‹hrung stanzielle Souvera‹nita‹tsfragen, die sich und auf den gesamten Wirtschaftsraum fu‹r uns alle stellen. Und diese Fragen

10 Wolfgang Schu‹ ssel

lauten: Wo braucht es mehr Europa? weiterzuentwickeln,wirdimmersta‹r- Wo braucht es mehr Bu‹rgerna‹he? ker zum Detailentscheidungsorgan. Nach meiner U‹ berzeugung braucht Grund dieser Entwicklung ist, dass es mehr Europa in der gemeinsamen dieFachministerra‹tebeinahejedesPro- Vertretung der Au§enpolitik. Es wa‹re blem, auch wenn es mit Mehrheit ent- unsinnig,wu‹rdemanweiterhin15oder scheidbarwa‹re,aufdieEbenedesEuro- spa‹ter 25 nationale Au§enpolitiken pa‹ischen Rates hinaufheben. Das halte formulieren. Es bedarf vielmehr einer ich fu‹r unklug, denn der Europa‹ische starken, koordinierten Stimme, einer Rat sollte das Steuerungsinstrument Stimme Europas, die von allen Mit- bleiben. gliedsstaaten mitgetragen und unter- Ein weiterer wichtiger Punkt wa‹re, stu‹tzt wird. Ein fataler Fehler wa‹re eineklareAbfolge,eine Choreographie aber, die nationalen Au§enminister der wichtigen Themen zu erstellen. ihrer horizontalen Koordinationsfunk- tion zu entkleiden. Eine logische Kon- sequenz mu‹sste eher sein, daru‹ber nachzudenken, dieeuropa‹ischen Koor- dinatoren — das sind fu‹r mich die Au§enminister — zu sta‹rken, ihnen aber zugleich auch auf europa‹ischer Ebene ein klares Visavis gegenu‹berzustellen. Das wa‹re meines Erachtens ein vernu‹nftiges Konzept. Ebenso sollte So sollte der Europa‹ische Rat sich etwa man die Au§envertretung und die im Fru‹hjahr sehr stark dem gemein- Koordination innerhalb der europa‹i- samen Wirtschaftsmodell widmen schen Institutionen besser ordnen. und die wirtschaftliche strategische Ich halte nichts davon, eine Konkur- Planung ero‹rtern. Bei den anderen renzinstitution zur Kommission zu Themenbereichen sollten Schwer- schaffen,indemmandieFunktioneines punkte gesetzt werden, um die euro- direkt gewa‹hlten Pra‹sidenten des pa‹ische Agenda weiter voran zu trei- Rates, der diese Funktion fu‹nf Jahre ben. Ich glaube auch, dass man letztlich lang innehat, kreiert. Das wa‹re viel- mit weniger Ratsformationen auskom- mehr ein Modell, das sehr stark in men sollte. Vor allem eine sta‹rkere die Na‹he eines Directoire der Gro§en Fokussierung, die sich mehr an der u‹ber Europa fu‹hren wu‹rde und nicht Kompetenzlage in den Mitglieds- mehr mit dem Prinzip der Gleich- staaten orientiert, wa‹re mit Sicherheit berechtigung und Gleichbehandlung sinnvoll. der Mitgliedsla‹nder vereinbar wa‹re. Die andere zentrale Frage ist: Wie Vielmehr ist ein klares Abstimmen kann man all das, was fu‹r Europa wich- bei den verschiedenen Funktionen tig ist, bu‹rgerna‹her, dezentraler, sub- der Ra‹te notwendig. Wir haben gegen- sidia‹rer organisieren? Das muss nicht wa‹rtig in diesem Bereich eine merk- zwingenderweise eine Umkehr der wu‹rdige Mischung. Der Europa‹ische Kompetenzlagebedeuten.Eswa‹reaber Rat, der eine sehr wichtige Motoren- sinnvoll, daru‹ber nachzudenken, ein funktion und eine strategische Pla- Modell a‹hnlich der o‹sterreichischen nungsfunktion innehat, zum Teil aber Verfassung, die in den Kompetenz- auch Controlling- und Aufsichtsrechte artikeln in gewissen Bereichen die fu‹r sichinAnspruchnimmt,umEuropa Grundsatzgesetzgebung als Bundes-

11 Wolfgang Schu‹ ssel

kompetenzunddieAusfu‹hrungsgesetz- fo‹rderung. Meiner Meinung nach gebung als Landeskompetenz vorsieht, werden wir mit unseren Zahlungen zu entwickeln. Das wu‹rde bedeuten, unter den in Berlin festgesetzten die Prinzipien, die Standards auf euro- Finanzobergrenzen bleiben. 1.27% pa‹ischer Ebene festzulegen, die Um- des Bruttosozialprodukts war vor- setzung, die Durchfu‹hrung und das gesehen. Der o‹sterreichische Beitrag . Controlling aber sta‹rker den Mitglieds- bela‹uft sich zurzeit auf 1 1% des staaten oder vielleicht sogar den La‹n- Bruttosozialprodukts. Diesen Prozent- dern, Regionen und Gemeinden zu satz werden wir bis 2006 nicht u‹berlassen. Gerade in den Bereichen u‹berschreiten. Mit der Differenz von . der Regionalpolitik, der Natur- der 0 17% sparen wir somit eine beacht- Umweltrichtlinien findet sich dafu‹r liche Summe. sehr viel Spielraum. Ich bin der Auf- Daru‹ber hinaus gibt es Reform- bedarf in vielen Be- reichen. Besonders die Regionalpolitik mu‹ssen wir an die neuen Gegeben- heiten nach dem Beitritt der neuen Mitgliedsstaaten an- passen. In der Land- fassung, dass manches, wenn es bu‹rger- wirtschaft sollten wir versuchen, nach nahe, also dezentral organisiert wa‹re, 2006 die Sa‹ulen zu vera‹ndern. Jetzt mit Sicherheit eine bessere Akzeptanz werden 90% fu‹r die Direktzahlungen und eine praxisna‹here Umsetzung ausgegeben und nur 10% fu‹r die Ent- fa‹nde. wicklung des la‹ndlichen Raums, wie Ein weiteres gro§es Thema, das ich zum Beispiel fu‹r Umweltprogramme. heute ansprechen mo‹chte, ist die Er- In diesem Bereich wu‹rde eine Um- weiterung. Ich habe als Ratsvorsitzen- schichtung o‹kologisch und marktwirt- der der Europa‹ischen Union im Herbst schaftlich eine positive Entwicklung 1998 die Verhandlungen begonnen. bedeuten. Das gilt auch fu‹r die Ver- Ende des Jahres 2002 werden wir waltungsbereiche der Europa‹ischen die Beitrittsverhandlungen mit der Union. ersten Gruppe der Beitrittskandidaten MeinesErachtensisteswichtig,den abschlie§en. Wir sind im Plan und bes- Zeitplan fu‹r die Erweiterung ernst zu ser unterwegs, als noch vor drei oder nehmen. Es ist aber auch notwendig, vier Jahren Optimisten gedacht haben. dass wir gerade in den na‹chsten Dazu mo‹chte ich klar sagen, dass fu‹r Monaten weniger u‹ber den Zeitplan mich die Substanz wichtiger ist als alsu‹ber dieSubstanzder Verhandlungs- der Zeitplan. Die Erweiterung ist kapitel diskutieren. Das ist ein guter ein so bedeutsames Projekt, dass wir und richtiger Weg. Das ist auch die ge- all unsere Kraft und Energie fu‹r die meinsame o‹sterreichische Position. Lo‹sungen der noch offenen Probleme Dabei sollte man jedoch nicht ver- aufwenden mu‹ssen. gessen, dass es auch bedeutsam fu‹r die Wir haben jetzt noch drei heikle europa‹ische Zukunft ist, dass wir jenen Themenblo‹cke vor uns: Die Landwirt- La‹ndern, die gegenwa‹rtig weder einen schaft, die Finanzen und die Regional- Kandidatenstatus noch eine Beitritts-

12 Wolfgang Schu‹ ssel

perspektive haben, eine Zwischenlo‹- wesensgesagt,dassdiesesinO‹ sterreich sung, einen Warteraum zur Mitglied- zu gu‹nstigen Beitragskonditionen sehr schaft anbieten. Wir brauchen ein gut organisiert ist. Netzwerk, das La‹nder wie die Ukraine Schwachstellen gibt es jedoch in oder Wei§russland oder Moldawien manchen innovatorischen Bereichen, einbindet. Es muss ein europa‹isches wie etwa im Bereich Forschung und Netzwerk, vielleicht eine Art europa‹i- Entwicklung. Dort holen wir jetzt auf. scher Wirtschaftsraum, ma§geschnei- Dafu‹rmo‹chte ich mich auch ausdru‹ck- dert fu‹r diese Partnerla‹nder gefunden lich bei der Oesterreichischen Natio- werden. nalbank bedanken. So viel zum Thema Europa. Nun Positive Effekte konnten wir auch mo‹chte ich noch kurz auf die o‹ster- auf Grund der Privatisierungserlo‹se reichische Entwicklung eingehen. erzielen. Ebenso hat die Bundesregie- Von der internationalen Konjunktur- rung ein Kon- abschwa‹chung konnte sich auch O‹ ster- junkturpaket reich nicht abkoppeln. Die o‹ster- zum richtigen reichische Wirtschaft ist stark mit Zeitpunkt be- der vonDeutschlandverflochten.Den- schlossen. Die- noch haben wir trotz Konjunktur- ses Paket zielt abschwa‹chung ein ho‹heres Wachstum nicht auf kurz- und bessere Arbeitsmarktdaten als in fristige Ma§nah- Deutschland. Einer der Gru‹nde dafu‹r men, die o‹kono- liegt in den bereits einsetzenden posi- misch nicht sinnvoll sind, sondern auf tiven Effekten der Erweiterung. O‹ ster- mittel- und la‹ngerfristige Weichen- reich hat die Chancen der Osto‹ffnung stellungen in Richtung Forschung, und der Erweiterung perfekt genutzt. Entwicklung und Bildung ab. Unter Wir haben die Exporte, Importe sowie anderem wurden beachtliche For- die Investitionen vervielfacht und uns schungspra‹mien und Forschungsfrei- damit den Platz im Herzen Europas betra‹ge fu‹r die Unternehmen geschaf- geschaffen, der uns zusteht. Deshalb fen; Ausbildungsanstrengungen fu‹r ist es umso wichtiger, dass wir zu Mitarbeiter ko‹nnen steuerlich gel- dieser Erweiterung ªJa sagen, weil tend gemacht werden. Diesen Weg sie sowohl politisch, als auch wirt- sollten wir weitergehen. schaftlich, sozial und kulturell in Hinsichtlich der konjunkturellen unserem Interesse ist. Entwicklung wird man vorsichtiger Ebenso verbessert sich O‹ sterreich sein mu‹ssen, als Optimisten angenom- schrittweise und sehr kontinuierlich in menhaben.DieErholungderKonjunk- den Weltranglisten, in den Rankings. tur wird sich voraussichtlich um ein, Au§er Finnland ist O‹ sterreich das ein- zwei Quartale verzo‹gern. Ich bin aber zige Land, das diese stetige Verbes- u‹berzeugt, dass wir Ende des Jahres serung aufweisen kann. O‹ sterreich 2002 und vor allem im Jahr 2003 befindet sich vor allem in wichtigen mit einer befriedigenden Konjunktur- Bewertungsdaten wie bei innerer entwicklung aufwarten ko‹nnen. Sicherheit, Lebensqualita‹t und auch Es ist unbedingt notwendig, den bei der Qualita‹t der medizinischen In- klaren Weg in Richtung Privatisie- frastruktur im Spitzenfeld der inter- rung und Liberalisierung der Rahmen- nationalen Rankings. Eben deshalb bedingungen fortzusetzen. Die O‹ ff- sei den Kritikern unseres Gesundheits- nung des Gasmarktes und des Strom-

13 Wolfgang Schu‹ ssel

marktes ist in O‹ sterreich fru‹her er- ImSteuerbereichseheichindiesem folgt als in anderen La‹ndern. Die damit Jahr noch keinen Spielraum. Fu‹r eine verbundenen Positiveffekte sind be- etappenweise Entlastung mu‹ssen wir reits fu‹r die Haushalte, vor allem einen Spielraum durch zweierlei aber auch fu‹r Wirtschaft und Ma§nahmen schaffen. Einerseits durch Industrie spu‹rbar. Die Bundesregie- eine forcierte Wachstumsstrategie: Ich rung konnte auch im Bereich der Pri- habe bereits die Pra‹sidenten der beiden vatisierungspolitik der O‹ IAG bereits Wirtschaftsforschungsinstitute gebe- vieles umsetzen. Zwei Drittel der ten, uns dabei behilflich zu sein. Ich Schulden von einst sind nun ab- mo‹chte auch die Notenbank und die gezahlt; die Entpolitisierung bei der interessierten wirtschaftspolitischen Postenbesetzung hat sich gerade in Kreise zur Mitarbeit einladen. Ich diesen Bereichen bewa‹hrt. Auf bin der Meinung, dass eine kreative Wachstumsstrate- gie ein halbes bis ein dreiviertel Prozent zusa‹tzlichen Spiel- raum durch mehr Einnahmen bringen ko‹nnte, die wir dann in Form einer Entlastung weiter- diesem Weg sollten wir in O‹ sterreich geben. Handlungsbedarf ist auch in weitergehen. den Bereichen Bildung, Qualifikation In diesen Tagen wurde im Par- und Forschung gegeben. Ich habe in lament ein sozialpolitischer Meilen- den letzten Tagen eine sehr aus- stein — die betriebliche Mitarbeiter- gedehnte O‹ sterreich-Tour unternom- vorsorge, die langfristig zur 2. Sa‹ule men und vor allem Bildungsinstitutio- der Altersvorsorge werden kann — ein- nen besucht. Da gibt es sensationelle stimmig beschlossen. Dieses Konzept Beispiele. So ist zum Beispiel in Vor- ist auch fu‹r den o‹sterreichischen Kapi- arlberg die Kooperation der Eisen-, talmarkt eine sehr interessante Sache. Metall- und Elektroindustrie zur Aus- Ein Bereich, der noch unerledigt ist bildung von Lehrlingen ein nicht vom und in dem wir nachlegen mu‹ssen, ist Staat, sondern von der Wirtschaft die gro§e Entlastungsstrategie. Wir finanziertes Modell. Das Engagement wollen die Steuer- und Abgabenquote und die Begeisterung dieser jungen auf unter 40% bis zum Jahr 2010 sen- Menschen, die an diesem Programm ken. Das ist fu‹r ein Land, das nie eine teilnehmen, sind beeindruckend. Die- besonders niedrige Steuer- und Abga- ses Vorarlberger Modell auf andere benquote hatte, eine gewaltige An- Bundesla‹nder zu u‹bertragen, wa‹re eine strengung. Die Bundesregierung ver- faszinierende Aufgabe. sucht hier, auf allen Ebenen schritt- Das gilt auch fu‹r den Bildungs- weiseSpielra‹umezuerka‹mpfen.ImBe- bereich. Vergleicht man die Fach- reich der Lohnnebenkosten ist ein hochschulen mit den Universita‹ten, Drittel bereits abgearbeitet, zwei Drit- dann wird deutlich, dass die Universi- tel stehen noch aus. Die vollsta‹ndige ta‹ten gegenu‹ber den Fachhochschulen Umsetzung wird in einem Etappenplan an Bedeutung verlieren werden, da erfolgen. Fachhochschulen kundenorientierte

14 Wolfgang Schu‹ ssel

und ma§geschneiderte Programme und eines Ausgabenspielraumes ver- anbieten, die auch auf die Bedu‹rfnisse wirklichbar.Wichtig ist aber auch, dass der Berufsta‹tigen eingehen. Ein Bei- die Steuersenkung sowohl der Wirt- spiel dafu‹r ist die Fachhochschule schaft als auch den Arbeitnehmern zu- Techno-Z in Salzburg. Ein Drittel gute kommen soll. der Studierenden ist berufsta‹tig, weil Zum Abschluss mo‹chte ich den geblockte Kurse fu‹r diese Zielgruppe Finanzinstitutionen ein gro§es Danke- am Wochenende angeboten werden. scho‹nfu‹r ihre Arbeit, fu‹r die professio- Derartige Mo‹glichkeiten ko‹nnten auch nelle Vorbereitung der Einfu‹hrung des Universita‹ten anbieten. Doch nur Euro, fu‹r die Betreuung des Wirt- wenige tun dies tatsa‹chlich. Hier schaftsstandortes und fu‹r ihre wichti- herrscht eindeutig Reformbedarf. Da- gen und entscheidenden Expansionen her du‹rfen wir im Interesse der Jugend nach Mittel-, Ost- und Su‹dosteuropa nicht in den Reformambitionen nach- aussprechen. Gerade im Hinblick auf lassen. O‹ sterreich soll auch in diesem die Verurteilung einiger Banken durch Bereich zur Weltklasse geho‹ren. die Europa‹ische Kommission sollte Als zweite Ma§nahme mu‹ssen wir man deutlich sagen, dass die Zeiten uns einen Ausgabenspielraum erka‹mp- von Absprachen schon lange vorbei fen. Hier haben wir mit den ersten sind. Heute ist eine neue Generation Schritten zu einer Pensionsreform, von Bankern ta‹tig, die sich aus- der Anhebung des Fru‹hpensionsalters schlie§lich auf dem Markt bewegt, und mit der Verwaltungsreform schon marktorientiert handelt und keine einiges getan. Doch die Ausgaben- Absprachen hinter den Kulissen oder spielra‹ume mu‹ssen mit Hilfe von wei- hinter dicken Polstertu‹ren braucht. teren Ma§nahmen nachdru‹cklich und In O‹ sterreich haben wir professionelle nachhaltig geschaffen werden. Denn und produktive Finanzinstitutionen, eines muss klar sein: Das Ziel, die die fu‹r den Standort O‹ sterreich beson- Abgabenquote in Etappen bis zum Jahr ders bedeutsam sind. Deshalb darf 2010 auf unter 40% zu senken, ist nur die Substanz der Finanzinstitutionen mit Hilfe einer Wachstumsstrategie nie in Frage gestellt werden. §

15 Klaus Liebscher Klaus Liebscher Governor, Oesterreichische Nationalbank

Conference Opening

(continued)

Tome, among many other things, these remarks of the Chancellor convey a deep-rooted conviction that there is nowayaroundactivelyfurtherpursuing the process of European integration, while taking seriously the need for high-quality policy at the national and regional level. And this idea may be seen as the overriding theme of our conference. In our program, we address three major issues, which — in my view — are essential to the European Unions further development, in both political and economic terms: — The first group of issues is institutional. With enlargement ap- proaching, the European Union has to further develop its institutional foundations and the efficacy of its decision-making. We will address this topic at fundamental level, for the EU as a whole, later this morning. Specific institutional and practical issues arising within the realm of the European System of Central Banks (ESCB), and in particular the experience gained so far in the Eurosystem, will be addressed tomorrow morning. — The second area of topics dealswith the economic structures in the face Klaus Liebscher

of ever-closer integration among tion. From the point of view of eco- EU Member States. In a first nomics, the further integration goes, tranche, right after lunch today, the better. we will ask how much further hith- If we focus more narrowly on the ertonationalpolicies,notablysocial needs arising from the single monetary policy, should be harmonized, or policy,theissueofwhether theeuroarea whether competition among sys- forms an optimal currency area, as tems might continue to be useful defined by Nobel Prize winner Robert also in the future. In a second Mundell, has been an ongoing debate tranche, tomorrow afternoon, ever since thevery ideaof a single Euro- we will discuss how much macro- pean currency was born. It is interest- economic divergence among euro ing to note, however, that after three area countries is sustainable. and a half years of practical experience with Economic and Monetary Union (EMU), this no longer seems to be much of an issue for the countries within the euro area. Still, as an immediate and ongoing prerequisite for success, the euro areas monetary policy needs to be accompanied by responsible fiscal and incomes policies that are able to absorb so-called asymmetric — The third group of issues relates to shocksbeyondthepurviewofthesingle financialmarkets.Foronething,we monetary policy. will investigate the scope of re- In the medium and long run, struc- gional financial institutions and tural reforms including the further in- stock exchanges in the single mar- tegration of product and labor markets ket and with a single currency. For need to ensure that European econo- another, we will take up the much mies themselves become more similar, debated issue of centralized versus and that they are able to absorb remain- decentralized models of super- ing asymmetric shocks more smoothly. vision. We have bundled these is- While a certain degree of homogeneity sues together to be treated later this among countries forming part of a afternoon and tomorrow before monetary union is necessary,it is above lunchtime. all the willingness of policymakers, In my introductory remarks I will economic agents and the public at large certainly not attempt to elaborate on toaccepttheconsequences ofEMUand each of these issues in detail. But let to address the reform requirements it me pick out a few ideas which in my imposes that determine the success of view deserve our particular attention. the single currency. Ourconferencetakesplaceatatime EMU is certainly a harbinger of a at which Europe is at a crucial cross- political union within Europe — as his- roads in several respects. A key issue tory shows, national territories and is how fast further economic integra- currency areas are, as a rule, identical. tion should proceed in order to best For this reason it is fundamentally im- exploit Europespotential. Clearly,this portant that national interests be over- is a very far-reaching subject. The an- come in favor of a single European pol- swer depends on the aim of integra- icy and that the cooperation between

18 Klaus Liebscher

Member States on a common foreign ments need to put more emphasis and security policy and internal secur- in their fiscal consolidation meas- ity policy be reinforced. ures on the welfare and growth im- I therefore welcome the EUs spe- pact of our tax and social benefit cial constitutional convention. The as- systems. sembled politicians and officials have Therefore, I fully support the the task of proposing a concept of Austrian governmentsaim of slash- the EU which will match our continen- ing the tax burden to 40% of GDP tal dimension and the requirements of by the year 2010 — while sticking to the21st century.Iacknowledgethatthis a balanced budget. Probably, this is convention is a bold experiment in con- easier and more successful if done sultative democracy. jointly, following agreed standards However, we need to define what and benchmarks. In this context, kind of institutional arrangements will be the prerequisite to meeting our aspi- rations, what kind of society and what kind of economy we want to build. I do not think that the real question is of federalism versus I would like to repeat what I al- national sovereignty. The EU is federal ready mentioned on previous occa- already. It divides power between dif- sions. I regard a zero-deficit as ferent levels of authority. Rather, the very attractive, of course, but it questions now are what the most effec- is primarily the expression of a po- tive and legitimate way to divide that litical intention and not an eco- power is, so that national sovereignty nomic requirement — since the is preserved within an integrated sys- Stability and Growth Pact as such tem. If those questions can be resolved, requires a budget close to balance Europe will earn the voice it seeks on or surpluses over the cycle. the world stage. — With regard to structural reforms, The need for other European pol- potential growth in most EU coun- icies, and especially economic policies, trieshasconsiderablylaggedbehind to accept the consequences of a single that in the United States in the currency and to step in line with its re- 1990s. What is even more worri- quirements naturally leads to the issue some, there is a consensus among of political governance in the European the economics profession and — it Union. There, a number of open, un- seems — policymakers alikethat this resolved issues are obvious. I will name growth gap will persist over the just the Stability and Growth Pact, years to come. Therefore we need which also includes the question of more incentives for entrepreneu- the quality of public finances, and rial initiative and for flexibility in theneedforfurther structuralreforms. our legal, tax and social welfare — I regard the Stability and Growth Pact systems. as crucial for the smooth function- These particular areas of economic ing of EMU. European govern- policy also demonstrate that the EUs

19 Klaus Liebscher

institutional setup for economic and least most of them — is higher than with political governance will by necessity previous enlargement waves. Third, have to develop further as European the level of EU integration to which integration deepens. But it remains the accession countries need to adjust an open issue how far the coordina- is unprecedented, both in terms of tion or even centralization of policies market integration and in terms of should go. jointeconomicpolicydecision-making. A related issue is to what extent re- This integration project is just as gional divergence among EU member impressive and far-sighted as EMU, countries — and, in particular, among and it holds both enormous opportu- euro area countries — might be a cause nities and challenges — challenges that of concern. Studies suggest an asym- must not be underestimated, as I men- metric, convergence-stimulating im- tioned before. pact of EU mem- Let me finally touch upon a further bership on long- focus of our conference, namely the is- term growth. sue of financial integration and the Thus, we believe future of regional financial centers. that EU integra- The link between financial systems tioninitspresent and economic growth has become a form supports very topical issue over the past few catching up and years. Various studies have suggested a narrowing of that more developed financial systems initially different income levels. But support economic growth. Further it does not — and should not — prevent developing efficient financial markets the specialization of certain regions and thus ranks high on the European policy the working of agglomeration effects. agenda. Competition among regions — also The questions that we want to ad- within the EU and the euro area — is in dress at our conference are more spe- principle useful, as long as it does not cific,namely whether theeurowilllead prompt governments to enter into to more concentration among Euro- competitive subsidization and similar pean financial centers, institutions policies. The EUs competition policy, and stock exchanges, to what extent however, should prevent such a course. regional financial development matters In the end, regional competition also for growth at the regional level, and supports our joint efforts towards how financial market supervision EU competitiveness at the global level. should best be structured in the face The EUs enlargement puts the is- of these developments. sue of regional convergence into the Given the increased importance of limelight again. This wave of enlarge- efficient and stable financial markets in ment is unprecedented in at least three the operation of monetary policy and respects. First, it is the biggest wave of the overall European nature of the enlargement in terms of the number of single monetary policy, the close in- entrant countries and the population volvement of central banks in financial size of the candidate countries — maybe market supervision is a must. Hence, I also in terms of future, potential GDP. think Austrias new Financial Market Second, the gap of economic develop- Authority Act, which establishes an in- ment between the current EU Member dependent, separate, single super- States and the accession countries — at visory agency and closely involves

20 Klaus Liebscher

the central bank, is a right step in that I may welcome at our 30th Economics direction. Conference the President of the ECB, The purpose of my short introduc- Willem F. Duisenberg, who will give a tory remarks was to sketch avenues keynote speech today, and two of my along which our discussions might fellow members of the Governing evolve over the next two days. If we Council of the ECB, Jean-Claude succeed in inspiring discussion, then Trichet and Arnout Wellink, who will we have achieved our aim of contribu- speak tomorrow. ting a little to European and inter- It is now my great pleasure to national integration by bringing to- welcome Heinrich Neisser, who will gether people and views. share with us some possible scenarios In this context, I regard it as a great for future institutional arrangements privilege and as a sign of the excellent in the European Union. § cooperationwithintheEurosystemthat

21 Heinrich Neisser Heinrich Neisser Professor, Jean Monnet Chair, Leopold-Franzens University of Innsbruck

Institutional Arrangements

of the European Union —

Scenarios for the Future

It seems to me that the European Union discoversor—onemaysay—rediscovers from time to time its own future. The Unions future is becoming more and more an issue of particular interest dis- cussedinmanyinstitutions andpolitical groups, in parliaments aswell as in governments, universities and particularly in nongovernmental organizations. In connection with the Treaty of Nice, the third amendment of the Maastricht Treaty,the European Union adopted a Declaration of the Future of Europe covering a program for a broad debate between political representatives, representatives of the universities, of business and of the so- called civil society. The topics of this debate are: — the division of competences between the Union and the Member States in accordance with the principle of subsidiarity, — the status of the EU Charter of Human Rights proclaimed in De- cember 2000 in Nice, — the simplification of the Treaties, and — the role of national parliaments in the architecture of Europe. Heinrich Neisser

A further step in the future debate of national debates on the future of the was made at the European Council in Union, the final document will provide Laeken in December 2001. The Pres- a starting point for discussions in the idencys conclusions contain another Intergovernmental Conference, which Declaration on the Future of the Euro- will take the ultimate decisions (in pean Union.1) This Declaration char- 2004). acterizes the current Unions situation Although the institutional reform is with the words Europe at a Cross- not explicitly mentioned in the decla- roads. In this document three dimen- rations described above, there is no sions are stressed: doubt that the reform of the institu- — first, the democratic challenge of tional framework is a key issue. the political community: Within The future of the European integration theUniontheEuropeaninstitutions process is determined by the tensions must be brought closer to its citi- between supranationality and inter- zens; governmentalism. Since the Treaty of — second, Europes role in a global- Nice, intergovernmentalism seems to ized world: Europe is a continent be in advance. of human values. The European Union is fully committed to de- 1 The Institutional mocracy and human rights. Europe Framework of the mustbeapower seekingtosetglob- European Union alization within a moral frame- The European Union has a special in- work, to anchor it in solidarity stitutional framework which cannot be and sustainable development; compared with states or other interna- — third, the expectations of the citi- tionalorganizations.TheGermanCon- zenshavetobeconsidered:Citizens stitutional Court stated in its remark- are calling for a clear, open, effec- able decision of October 12, 1993,2) tive, democratically controlled that the European Union is neither a Community approach, developing federal state nor a confederation. It a Europe which points the way isratheranassociationofstatessuigen- ahead for the world. eris. This statement can be verified by Continuing and intensifying the de- lookingatEUinstitutions.TheTreatyon bate about the future of the Union, the European Union (TEU), also known asthe EuropeanCouncildecidedtoconvenea Treaty of Maastricht, set up a particular Convention. This Convention is ex- structure of the Union, namely a com- pected to consider the key issues bination of supranational and inter- arising for the Unions future develop- governmental elements. Pillar 1, Eco- ment and try to identify the various nomic and Monetary Union, is organ- possible responses. It will draw up a ized at a supranational level, pillar 2 final document which may either com- and 33) are based on intergovernmental prise different options (including the cooperation. All three pillars have the degree of support which they received) same institutional framework, but the or recommendations (if consensus is position of the single institutions is dif- achieved). Together with the outcome ferent: in pillar 2 and 3 the Council is

1 http://europe.eu.int/futurum/documents/offtext/doc151201_en.htm. 2 BVerfGE 89, 155. 3 Pillar 3 covers Police and Judicial Cooperation in Criminal Matters.

24 Heinrich Neisser

prevailing and the Commission, and 2 Institutional Arrange- particularly the European Parliament, ments and Institutional have a weak position. Reform Thecenterofinstitutionswithinthe Institutional reform is increasingly first pillar is an institutional triangle being discussed. Not only because of consisting of the Commission, the the enlargement process and the grow- Council and the European Parliament. ingnumberofMemberStatesbutalsoto Between these institutions there is a make the institutions more effective. balance of power: the Commission Effectiveness alone, however, is not has the right to take initiatives, it is the problem. Within the European described as the engine of the inte- Union there is an ever more intense gration process. The Commission is debate about the importance of its also the guardian of the Treaties and institutions and their functions. The may bring cases beforetheEuropean Court of Justice. The Council has the main responsibility in taking decisions.TheEuropean Parliament has become more and more of a factor in the decision-making following questions are discussed process, participating in various proce- most frequently: dures of the legislative process; the — What is the future of the Commis- strongest is the codecision procedure, sion? Should its position vis-a‘-vis where it can block any final decision the Council (European Council) by veto. be strengthened? Should the Com- The dualism of supranational and mission become the Councils sec- intergovernmental elements conse- retariat or a European Government quently leads to two types of institu- in the real sense of the word? tions: the Commission and the Euro- — How should the President of the pean Parliament represent supra- Commission be appointed: by national interests; the Council, the the European Council, by the Euro- Committee of Permanent Representa- pean Parliament, or should he be tives (COREPER) and the European directly elected by the European Council are intergovernmental bodies. citizens? The balance between these two institu- — The European Council, consisting tional types is the key issue of institu- of the heads of stateor government, tional agreements. Especially the rela- lacks effectiveness. It is not able to tions between the Commission and the give the necessary impetus to the Council can be seen as a parameter of Union. What is the relation be- power between the supranational and tween the European Council and the intergovernmental sides within the Council (particularly the Coun- the political system of the European cil of General Affairs)? Union. — The Council has a horizontal and multidisciplinary function, which is not satisfactorily fulfilled.

25 Heinrich Neisser

— The European Parliament has to — What is the advantage of the six- maintain the focus of democratic month rotation of the Presidency legitimacy. Its legislative power is of the Union? of a participatory nature, there- — How should the coherence of Euro- fore its position is weaker than pean foreign policy be enhanced? that of national parliaments. Im- Many questions, different answers. proving the legislative function of If you have to decide on institutional the European Parliament means arrangements, it is necessary to have that every time the Council de- a clear picture of the main institutional cides with qualified majority the structure. A German economist re- codecision procedures should be cently published a book in which he ela- applied. boratedtwoalternatives.1)Oneofthem — Should the way in which we elect is the way to a European superstate. the members of the European Par- That means a very strong European liament be reviewed? level: the Commission as a Govern- — Should the role of the Council be ment of the Union, the European Par- strengthened? liament as a legislator, combined with — With a view to greater transpar- the Council of Ministers as a second ency, should the meetings of the chamber. This way would lead the Council, at least in its legislative European Union toward becoming a capacity, be public? European central state like France or Another question relating to the United Kingdom. democratic legitimacy involves the The alternativewillfight against the role of the national parliaments. Should progressive process of centralization. they be represented in a new institu- Therefore a system must be established tion, alongside the Council and the which is based on the principles of the European Parliament? Should they separation of power, democracy and have a role in areas of European action subsidiarity. The proposals for a new in which the European Parliament organization made by Roland Vaubel has no competence? are somewhat astonishing: A third set of questions concerns — the Commission should be reduced the improvement of the efficiency of to purely executive matters, with- decision-making and of the work- out having the right of initiative; ings of the institutions in a Union of — the Council of Ministers should not some thirty Member States. In con- have legislative authority, the crete terms, the issues in question are: Council members should be the — How could the Union set its objec- heads of the Directorates General; tives and priorities more effec- — the parliamentary institutions con- tively and ensure better implemen- sist of the European Parliament and tation? a second chamber with delegates — Is there a need for more qualified- from the national parliaments. majority decisions? What Vaubel is suggesting seems to — How can the codecision proce- be merely a theoretical concept but it dure between the Council and mirrors the controversial positions the European Parliament be simpli- above described between supranation- fied and speeded up? alism and intergovernmentalism.

1 Vaubel, R. (2001). Europa-Chauvinismus. Der Hochmut der Institutionen. Munich.

26 Heinrich Neisser

Obviously an institutional reform fairs or external relations, but it also is will result in a power struggle between in charge of dealing with institutional the institutions and between different questions and other general perspec- interests: in terms of the European in- tives. The General Affairs Council tegration process, thiswill be a struggle has a horizontal and multidisciplinary between the Communitys interests function (institutional questions, the fi- and the interests of the Member States. nancial framework of the European Thus the key question of the institu- Union, enlargement, the preparation tional reform is the following: Towhat of the European Council, etc.). That extent will the Member States relin- function is not being satisfactorily quish power and influence? Towhat ex- fulfilled. tentarethenationalgovernmentsready The Solana paper,1) elaborated by and willing to give up further parts of the present Secretary General of the their sovereignity?

3Reforming Political Leadership The institutional reform debate concerns many institutions with different goals. The necessity of the parliamen- tarization and democratization of the European Union affects particularly the European Parliament and the role Council, seeks to remedy this situation of national Parliaments. Improving the bymakingsuggestionswhichwouldnot political leadership focuses on the insti- require an amendment of the Treaty: tutions representing the governmental — creation of a new formation of the side: Council, European Council and Council, composed of Deputy EU Presidency. Prime Ministers; this proposal In the following section, I will deal has met with strong objections; with reform suggestions that are being — creation of a special new formation discussed more and more within the of the Council, composed of Min- European Union. isters/State Secretaries for Euro- pean Affairs; 3.1 The General Affairs Council — splittingthepresentGeneralAffairs The Council of the European Union, Council into two formations: one composed of the Ministers of Member to deal with external relations, States and usually called the Council of the other responsible for horizontal Ministers or simply the Council, is the questions. These two formations Unions main decision-making body.In would have separate and different reality there are several distinctly spe- timetables, rules of procedure cialized Councils (Council for Agricul- and methods of preparation. ture, for Transport, for Environment etc.). The General Affairs Council, 3.2 The European Council which brings together the Ministers The European Council is the core of for Foreign Affairs, plays an important the EU executive bodies. Its position role. It not only deals with foreign af- is described outside of the regular

1 Preparing the Council for Enlargement. Report by Javier Solana, 11 March 2002 (OR. fr) S0044/02.

27 Heinrich Neisser

framework of the EU institutions. where the European Council can de- Article 4 TEU lays down the tasks cide upon joint actions or common and composition of this leading insti- positions binding the Member States tution: politically (Article 13 para 1, The European Council shall pro- 2 TEU). vide the Union with the necessary The European Council is the impetus for its development and shall Unions supreme political authority. define the general political guidelines This record is now in danger. Dur- thereof. The European Council shall ing the last years the European Coun- bring together the Heads of State cils meetings showed that this institu- or Government of the Member States tion is caught in a field of increasing and the President of the Com- tension and different opinions. Fur- mission. They shall be assisted by thermore, over the past few years, it the Ministers tended to disperse its energies on an for Foreign Af- ever more extensive agenda dealing fairs of the Mem- with many things without relevance ber States and for the integration process. by a Member of Therefore, there is a close link — the Commis- in reform matters — to other bodies: sion. The Euro- the General Affairs Council, the pean Council COREPER and the General Secre- shall meet at tariat. least twice a year, under the chairman- The Councils General Secretariat shipoftheHeadofStateorGovernment elaborated a special report Preparing of the Member State which holds the the Council for Enlargement.1) This Presidency of the Council. paper includes possibilities for discus- In practice the European Council sion,whichdonotrequirearevisionof has got a comprehensive responsibility the Treaty. It mentions three possibil- on a strategic as well on an operational ities: level. It has initiated major developments on its own account. It was acting Refocussing the European Council as a trouble-shooter in many ways. And on its original purpose: nothing of any importance has hap- — concentrating on its role of coor- pened in which the European Council dinator and driving force, avoiding was not involved. It was the steering as far as possible making it an appeal platform dominated by predominant body for the Council; the European leaders like Francois Mitterrand and Council must devote its meetings Helmut Kohl. and its debates to framing Union The European Council was consid- policy and major strategic deci- ered as a forum for free and informal sions;i.e.thekeypolitical decisions exchanges ofviewsbetweentheleaders that will be crucial to the future of of Member States. The heads of state the Union; or government do not adopt legal acts — abolishing all reports, conclusions that are formally binding for the or parasitic procedures that clog Member States, except for the Com- up meetings. mon Foreign and Security Policy,

1 Report by Javier Solana, 11 March 2002 (OR. fr) S0044/02.

28 Heinrich Neisser

Better organisation and in all the Committees that are of European Council meetings: involved in the preparatory works, first — regularEuropeanCouncilmeetings of all the COREPER. (4 per year) conceived as working The Presidency as an institution is meetings forming part of the nor- important for the political leadership mal pattern of the Unions activ- within the European Union. But there ities; are serious problems. They stem from — application of certain procedural the increasing mismatch between provisions relating to Council the scale of the Presidencys task meetings (e.g. agendas); and the brevity of each Presidencys — replacement of the present Con- tenure. On the one hand, Member clusions by a brief summary of States are investing time and decisions adopted and the agreed resources to achieve a good Presi- strategic guidelines; dency, on the — radical reduction of the size of del- other hand, egations and, as a general rule, no every six months more ancillary activities (meetings the Union has to with third parties etc.). deal with new presidencies More structured preparation: which are differ- Preparations for the European Council ent in many must not be seen as a prenegotiation of ways: they have the outcome. The European Council different programs and a different main must instead be provided with all the focus. Thus Ludlow concludes, The relevant background information Presidency as currently organised is needed to discuss the dossiers submit- therefore inherently costly and ineffi- ted to it and to take decisions in full cient. But simultaneously he under- knowledge of the facts. This will be lines: If it did not exist, the Union achieved first of all by greater efficiency would nevertheless have to invent it. in the Councilsvarious formations, the A system that is founded on the states number of which should be reduced. can only function if the states acquire a That presupposes, secondly, a method- sense of ownership of, and responsibil- ical approach to preparation which is ity towards, the system as a whole lacking at present and which could The Presidency is in other words one be the task of a new formation of of the most powerful signs and tokens the General Affairs Council. that the EU is a method of government of the member states, by the member 3.3 The Presidency states for the member states.1) The role of the Presidency is laid down To hold the current Presidency has in Article 203 para 2 TEC: The office become a matter of national prestige. ofPresidentshallbeheldinturnbyeach Each Presidency established its own Member State in the Council for a priorities. The Presidency was con- term of six months in the order decided ceivedasanelementofbalanceandcon- by the Council acting unanimously. tinuity, but now it became a source of Presidency means chairmanship in permanent imbalance and controversy the Council, the European Council within the Union.

1 Ludlow,P.(2001).ACommentaryontheEU.In:AViewfromBrussels.CentreforEuropeanPolicyStudiesNo.12,June:17.

29 Heinrich Neisser

Therefore it is understandable that of team presidencies, which Niels the above-mentioned Solana paper Ersb¿ll and I advocated before dealswithideasandproposalstoreform the 1996 IGC. Under this scheme, the current system of the Presidency. themember stateswouldbedivided This paper offers different proposals; into a number of groups, each con- one part is concerned with suggestions sisting of governments from north that can be realizedwithout any amend- and south, east and west, rich and ment of the Treaties: poor.Every team would be in office — improved cooperation between for two oreven threeyears, thereby successive Presidencies by longer reducing the problems inherent in forward-scheduling of meetings, six-month rotation. Responsibil- laying down specific functions for itieswouldbe allocatedin the teams the subsequent Presidency or Pres- bymutualagreement, thoughevery idencies; head of government or state con- — appointing the chairman of certain cerned might be given a chance workingpartiesorcommitteesfora tochair theEuropeanCouncil,dur- period longer than 6 months; ing which period his or her country — specific committees or working would play host to non-Brussels/ parties could be chaired by the Sec- Luxembourg events, as Presiden- retariat General of the Council. cies currently do. Most if not all The proposals requiring an amend- other Councils, committees and ment of the Treaties are of more signifi- working groups would however cance: have the same president for the du- — Discussions revolve around the idea ration. that the President of the European Council is elected by European 3.4 National Parliaments — Council members for a term of a New Competitor more than 6 months, possibly 2 The role that the national parliaments or 2.5 years. should play in the system of the Euro- — An alternative could be an appoint- pean Union is a matter that concerns mentofthePresidentoftheCouncil the Union or rather the Member formations for a term of over 6 States themselves. National parlia- months. This appointment might ments have their own distinct constitu- be through elections or — this is tional history and political structure. the better idea — on the basis of But they play roles with different a rotation between five or six functions. Three of them have to be groups of states which would hold mentioned: the Presidency concurrently; those — First, each amendment of the groups should be composed in such Treaties must be accepted by the a way as to ensure representativity Member States in accordance with and maintained strict equality be- the national constitution. There- tweenstates.Iabsolutelyagreewith fore the national parliaments Peter Ludlow, who wrote in his usually have to ratify the agree- Commentaryon the EU, The most ments elaborated and agreed by elegant solution would undoubt- the Intergovernmental Confer- edly be the adoption of the idea ence.1)

1 See Article 48 TEU.

30 Heinrich Neisser

— Second, national parliaments are a of the European Parliament within fundamental element for the the national parliaments; Unions democratic legitimacy. — to ensure a better harmonization The mediate democratic legitimacy among the legislative bodies. of the Council, which comprises This Presidents Conference be- the government representatives came a platform of political discussions of the Member States, is derived in general, not on special topics. from the national parliaments. If At the end of the 1980s, a new step the European Union wants to cope was taken toward a closer cooperation with the lack of democracy, the between the national parliaments. The parliaments of the Member States Confe«rence des organes spe«cialise«s must be included in such a process dans les affaires communautaires of gaining more democratic legiti- (COSAC)wasestablishedinNovember mation. — Third, the national parliaments immediately influence, to a certain extent, the decision-making process in the Council of Ministers and in the European Council. TheMemberStatesestablishedspe- cial committees in the national parliaments, European Affairs Com- mittees, etc., having the possibility 1989. Since then, the national parlia- to make binding statements for ments have aimed at a more intense their government representative participation in EU activities. The in Brussels.1) That means the gov- Treaty of Amsterdam includes a proto- ernment representatives have to col on the role of the national parlia- respect the Parliaments will in ments within the European Union.2) their voting behavior. They now have the ability to express For years the national parliaments their opinions about issues of particular have tried to gain more influence in the interests. The protocol contains a list of decision-making process of the Com- documents of reference and legislative munity. There was an initiative by proposals which shall be timely trans- Gaetano Martino to establish perma- mitted to the national parliaments. nent and direct talks between the pres- Moreover,COSACisentitledtosubmit idents of the national parliaments and its contributions to the institutions of the president of the European Parlia- the EU and may make initiatives and mentontopicsofcommoninterestpar- proposals in connection with the cre- ticularly concerning ation of an area of liberty, security — the coordination of the European and justice as well as the application Parliaments activities and those of the principle of subsidiarity and of national parliaments; fundamental rights issues. — research activities aiming to give more resonance to the initiatives

1 See Weber-Panariello, P. (1995). Nationale Parlamente in der Europa‹ischen Union. Baden-Baden. 2 Protocol No. 9 on the role of national parliaments in the European Union.

31 Heinrich Neisser

3.5 Role and Significance elimination of exchange rate risks may of the Regions promote regional specialization and in- Article 158 TEC stipulates: In order tra-Community trade in goods and to promote its overall harmonious de- services. The weaker regions can ben- velopment, the Community should efit from this specialization by exploit- develop and pursue its actions leading ing more fully their comparative advan- to the strengthening of its economic tages.1) and social cohesion. In particular, the Since the Treaty of Maastricht Community shall aim at reducing dis- regions have not only been relevant parities between the levels of develop- for the regional policy,but have started ment of the various regions and the to play a more and more important role backwardness of the least favoured rein the political system of the European gions or islands, including rural areas. Union. There are two levels where the regions try to improve their influence. On the one hand, the integration process had impacts on domestic regional issues (like in Spain, Italy, Austria, Germany, and United King- dom), while on the other hand, the regions of the Member States make many efforts to strengthen the representation of their interests in Brussels. This article describes the funda- The Committee of the Regions is only mental guideline of Economic and an advisory board and therefore not Social Cohesion. It is the basis of really effective. More important are the Regional Development Policy. many offices, missions and representa- European regional policy coordinates tions established by the regions in national regional policies by formulat- Brussels. ing guidelines and establishing certain The future debate must deal with principles in order to avoid competi- the role of regions, cities and munici- tion for regional aid between Member palities. The main question will be: States. It also coordinates the various How should the Treaties be reformed policies and financial instruments of to guarantee that the local and regional the EU to give them a regional dimen- authorities be better represented in EU sion and thus more impact on regions institutions? mostinneedofcare.Europeanregional One of the most relevant perspec- policy is an essential instrument of eco- tiveswithin theEuropean Union willbe nomic and social cohesion, necessary the transnational cooperation between for the progress of Economic and Mon- regions(for instancetheEuropean Re- etary Union, implying the convergence gion Tyrol). Topromote this opportu- of the Member States economies. nity, the regions must be provided with The achievement of Economic and more autonomy in shaping their own Monetary Union promises enhanced transregional relations. prospects for the developed andtheless Istartedmypresentationbyquoting favored regions alike. The reduction of the future declaration of Laeken: transfrontier transaction costs and the Europe at a Crossroads. Being at a

1 Moussis, N. (2000). Guide to EU policies. 6th ed., Rixensart: 150.

32 Heinrich Neisser

crossroads means to make a decision — elaborating the text of a European among alternatives and options. As I Constitution. pointed out, the main decision is What is the priority among these whether the European Union should topics? The urgent matter is the im- go into the direction of either supra- provement of the Unions democratic nationality or intergovernmentalism. structures. All those measures able In the Treaty of Nice, the European to reduce the democratic deficit within Union adopted provisions preparing the European Union have priority. European institutions to function in The main goals are transparency the context of a Union composed of and openness in the decision-making 27 Member States. The Treaty of Nice process. Therefore, the following has not yet been ratified — the Irish measures are inevitable: referendum prevents ratification. — meetings at which the Council acts Moreover, this Treaty is just a relatively as a co-legislator should be open to simple adjustment that merely consid- the public; ers the enlargement process. It is not or — EU citizensright of access to docu- cannot be the final point of institutional ments of the European Parliament, reform. Council and Commission must be The process of European construc- safeguarded; tion has never halted. The Union is in — strengthening the regional repre- perpetual movement. The Member sentation within the EU. For imple- States have united their currencies menting a strategy closer to the and closely coordinated their economic citizens, regions are necessary as policies.Theyarewillingtoplaceunder anelementoftransmissionbetween common command certain units of theUnionanditscitizens.European their armies. They have to create fed- identity must be based on national eral institutions that are able to com- and regional identities. pensate for the losses of national sov- We cannot create a European iden- ereignty these changes entail. tity without respecting national identi- In the declaration of Laeken many ties.Article6para3TEUmakesitclear, goals are mentioned that are also signif- The Union shall respect the national icant for institutional arrangements: identities of its Member States. — a better division and definition of In a multilevel governance system, competences; the identity of the Community is also a — a simplification of the Unions in- multilevel one. Institutional arrange- struments; mentshavetomakevisiblethenecessity — more democracy, transparency and and the complexity of European efficiency; identity. §

33 Willem F. Duisenberg Willem F. Duisenberg President, European Central Bank

The Euro as a Catalyst for Integration and Competition

in EMU

Here in Vienna, exactly one hundred years ago, Joseph Schumpeter em- barked upon his university studies at the School of Law and Political Science. He was a promising young student with ambitions in academics, politics and business. Already, at the age of 22, he had published his first works and wouldsoonbecomeoneoftheyoungest holders of a doctorate, the youngest private teacher and the youngest professor in Austria. Joseph Schumpeter has become known as one of the foremost representatives of the famous Austrian School of Economics. He has influenced economic thought, in particular, by introducing innovation as a source of economic dynamics. According to Schumpeter, economic development was a dynamic process, a disturbance of the economic status quo. The real challenge for capitalism, therefore, was to create and destroy economic structures in a process he called creative destruction. This, he maintained, Willem F. Duisenberg

was the essence of economic develop- benefited the euro areas economy,act- ment, a process defined by the imple- ing — as formulated in the title of my mentation by the entrepreneur of new speech—asacatalystfor integrationand production combinations. competition. I believe that Schumpeter would be very interested in the topic I want to ASingleCurrency discuss today. My speech is about the for a Single Market euro as a catalyst for integration and A natural starting point for my topic competition in Economic and Mone- today is the adoption of the Single Mar- tary Union (EMU), or, in other words, ketProgrammein1985,pavingtheway about economic growth and adjust- for the famous four liberties estab- ment in the euro area. Both high, sus- lishedintheEuropeanTreaties:thefree tainable economic growth and the abil- movement of goods, services, labour and capital. After the adoption of the Single Market Programme, it became increasingly clear that the potential of the internal market could not be fully exploited while the relatively high transaction costs linked to currency conver- sion and the uncertainties associated with exchange-rate fluctuations per- ity to adjust smoothly to changes in the sisted. Indeed, the single currency economic environment require further should be seen as a necessary comple- economicintegrationandcompetition. ment or, in fact, the crowning achieve- This, in turn, is closely linked to the ment of the Single Market. process of structural reform, which, That said, we have not reached the to use Schumpeterswords, can be seen end of the development of the Single as a necessary precondition for a dy- Market. Instead, I see the euro as facil- namic economic process, a disturbance itating further economic integration. of the economic status quo. The intro- For example, countries with the same duction of the euro acts as a catalyst currency tend to trade more with each for this dynamic process of structural other than they would with countries change. with different currencies. In addition, a In my speech today I will address singlecurrencyfosterstheformationof the following topics. I will first talk a single financial system. By increasing about the link between European inte- price transparency, reducing trans- gration and the euro, and then argue action costs and fostering competition, why an increasingly competitive and theeuroactsasapowerfulcatalysttothe dynamic society raises the need for economic integration process in the further structural reforms. However, euro area. Last, but not least, our com- reforms are also important for the mon currency is also a powerful symbol smooth functioning of a monetary for all citizens of the euro area that union, a point I will discuss next. integration has reached a new level. Finally, I will assess the progress that As we approach the first summer holi- has been made with the structural re- day season since the introduction of forms in the euro area so far and discuss euro notes and coins, increasing num- how the single currency has already bers of people in Europe will, them-

36 Willem F. Duisenberg

selves, experience the practical advan- Market and to enhance the economic tages of a single currency. growth potential of the EU, its regula- The impetus the euro gives to eco- tory framework has to be modernised nomic integration and growth should and reforms are needed. Somewhat not only be regarded as an opportunity more than two years ago, the Lisbon for Europe, but also as a necessity in a European Council formulated a strate- world of innovation and globalisation. gic goal for this decade, namely to Over the last few decades, the world become the most competitive and economy has become ever more inte- dynamic knowledge-based economy grated. We have witnessed a strong in the world. The Lisbon strategy es- expansion of international trade and tablished a comprehensive reform capital flows and an increase in compe- agenda which aims to overcome exist- tition. Behind these changes there are ing fragmentation and inefficiencies in several underlying factors. Among the most important is rapid technological progress, leading to dramatic reductions in transporta- tion costs and an unprecedented increase in information processing capa- many different areas. This has provided bilities. Policy measures have also a major political impetus for further supported the globalisation trend, with progress in the field of structural re- the loosening of restrictions to trade form that I very much welcome. The and the liberalisation of capital move- European Council aims to increase ments. the potential GDP growth rate to This panorama shows that we live in around 3% per year,an objective which a dynamic and competitive world, can only be achieved if steady progress where the ability to innovate and adjust on a broad range of reforms is made. to changing economic circumstances Whether or not this objective is met has become even more important than hingespartlyonthecapacity toimprove before. In this respect, Schumpeters mobilisation of available labour resour- thoughts havent lost anything of ces. In this regard, one of the explicit their relevance. On the contrary; in objectives set at the Lisbon summit is a dynamic, ever-changing economic to raise the EU-wide employment rate environment, entrepreneurs have to to 70% of the working age population be all the more innovative and sensitive by 2010. to new opportunities. The regulatory In order to achieve the Lisbon framework formed by the laws, rules objective, it is crucial that progress and regulations that influence eco- is systematically controlled and eval- nomic behaviour, should thus provide uated. In this context, the Broad the right incentives for innovation, dy- Economic Policy Guidelines for the namism and economic growth. Member States and the Community The EU Heads of State and Govern- play a particularly important role. This ment have recognised that, in order to is the overall framework for the co- improve the functioning of the Single ordination of economic policies, in

37 Willem F. Duisenberg

particular, those related to fiscal and WhyAreStructuralReforms structural policies. In order to fulfil this Important? role, the Broad Economic Policy Structural policies cover a wide range Guidelines have, in recent years, been of areas and instruments. Among the enhanced in several ways. They have most commonly discussed are micro- become more operational through economic regulations implemented the use of more concrete recommen- in product, labour and financial mar- dations in both the general and coun- kets. Among other things, such regu- try-specificparts.Moreover,withinthe lations encompass competition poli- overall process of policy co-ordination, cies, entry barriers, tax and benefit increased emphasis is being placed on systems, state aid, employment protec- implementation. Tothis end, the Euro- tion rules, education and training, as pean Commission has introduced a well as incentives given to research and development. They are important for twomainreasonssincetheyenhance the economic growth potential and facilitate the adjustment to economic change. Let me say a few more words on these two reasons. First,structuralpoliciesarejustone of many factors determining the rate at which the economy can grow,although comprehensive implementation report there are many other factors which that assesses the extent to which EU influence the rate of economic growth. MemberStateshavefollowedthepolicy Some factors, such as changes in de- recommendations. I fully support these mand conditions, have temporary ef- changes. fects on economic growth, whereas As you know, the most recent others, such as the rate of growth of Spring Meeting of the European Coun- the working age population and capital cil, the second follow-up meeting to stock, as well as the increase in produc- Lisbon, took place in Barcelona earlier tivity,have long-lasting effects. It is this this year. The conclusions of the Barce- latter type of factor, however, that lona Summit demonstrate that a strong determines the potential growth rate political will and thorough preparation of an economy. These components, of the technical details are needed if the inparticular thegrowthofemployment European Union is to meet the ambi- and productivity, can be influenced by tious economic, social and environ- structural policies. Changes to tax and mental objectives that it set for itself benefit systems, for example, can help at the Lisbon Summit. The successful to mobilise the unused labour potential introduction of the single currency is in the economy by making it financially the best proof that these ingredients more attractive to accept a job. This are indispensable. The main point could lead to a better use of the supply now is that the relevant Council forma- sidepotentialoftheeconomy.Thethird tions, the European Parliament and the factor, productivity growth, can be in- Member States take the necessary steps fluenced in several ways: by increasing to rigorously implement the structural competition, facilitating investment, reform agenda agreed in Lisbon and encouraging enterprise and innovation confirmed in Barcelona. and improving the workforces skills.

38 Willem F. Duisenberg

Structural policies have particular im- flowsoflabourandcapitalarefacilitated portance for monetary policy. They by a high degree of economic and finan- allow the economy to grow at a higher cial integration of the countries partic- rate, on a sustained basis, without cre- ipating in the union. ating inflationary pressures. In addition to this, the theory of However, structural reforms are optimal currency areas has also some- not only important for economic thing to say on the similarity of shocks growth, they also increase adaptability affecting countries or regions in a to economic shocks. Adaptability con- monetary union. In this respect, the cernstheeconomysabilitytoadaptand degree of trade and financial integra- respond to changing economic condition are often considered. Trade and tions. It is the ability to shift resources financial integration may tend to lead from areas in recession to booming to more similar economic develop- areas, something which is essential ments in the respective countries or to the successful functioning of a mon- regions in a monetary union, reducing etary union. Under EMU, member the likelihood of asymmetric shocks countries are unable to use country- and increasing the economies abilities specific monetary and exchange rate to adjust to these shocks. policies to address country-specific So far the theory, let me now move shocks. The adjustment to such eco- on to the practice. I will now focus on nomic fluctuations will therefore have two adjustment mechanisms: price- to take place through other adjustment wage flexibility and factor mobility. mechanisms. Without price and wage A host of empirical studies on these flexibility and mobility of production mechanisms has been undertaken for factors, economic shocks would lead the euro area. How well does the euro to lower economic growth and higher area measure up against these two unemployment. Let me say a few more criteria? words on the important role of these adjustment mechanisms in a monetary Price and Wage Flexibility union. There is broad agreement that price flexibility is low across euro area coun- The Theory tries in comparison with the United of Optimal Currency Areas States. In the euro area, price flexibility Ever since the idea of EMU was for goods and services is hampered by launched, a discussion has ensued as trade barriers, continuing state aid to towhether the whole or part of Europe several sectors and, more generally, a wouldbeanoptimalcurrencyarea.The lack of competition in sectors that have optimal currency area theory defines a been dominated by monopolies or state set of mechanisms that might be set in owned enterprises. motion when a participating countryor Low wage flexibility is also an im- region, in a monetary union, is hit by an portant factor behind the lack of price asymmetric shock. First, adjustment to flexibilityintheeuroarea.Manystudies the shock might come from domestic indicate that in comparison with the price or wage changes, thereby altering United States, real wages are relatively therealexchangeratewithoutchanging inflexible in Europe. More specifically, the nominal exchange rate. Secondly, I mean that the downward responsive- migration of production factors might ness of real wages to the level of un- act as an adjustment channel. These employment is more limited in Europe

39 Willem F. Duisenberg

than in the U.S. There are, however, costs. Moreover, it is doubtful whether notable differences across countries this mechanism is very efficient when a in the euro area. country or region is hit by a temporary Let me also mention the potential shock. Therefore, factor mobility links between the flexibility of product seemsasuitableadjustmentmechanism and labour markets. Reforms in one only in case of a permanent shock and if area are likely to have effects across prices or wages are rigid. markets. For example, reforms leading Several studies have found that la- tomoreflexibleproductmarketsmight bour mobility within the United States improve the performance of the labour is two to three times higher than in market. If regulations on setting up a Europe. This result is confirmed by business are loosened, employment the persistence of regional unemploy- creation is also likely to increase. ment differences in Europe. Similarly, labour Overall, it can be concluded from market reforms empirical studies that the degree of might also have wage-price flexibility and factor mobi- an impact on lity is relatively limited in the euro area. product mar- The lack of adjustment mechanisms in kets. For exam- the euro area should, however, not be ple, labour mar- exaggerated. Euro area countries are ket reforms may highly integrated both in terms of trade improve the ex- and financially.As I have just explained, tent to which differences in skills or a high degree of trade and financial productivity are reflected in wage dif- integration may lead to more similar ferentials, which could affect prices. economic developments across euro More generally, more flexible labour area countries. markets allow companies to adjust to In addition, the optimal currency economic changes with greater ease. area properties are likely to evolve over time. The irrevocable fixing of ex- Factor Mobility change rates and the introduction of Let me now turn to the second adjust- the single currency may lead to a con- ment mechanism, the mobility of fac- vergence in the production and export tors of production. Changes in price structures of economies in the euro levels, in product and labour markets, area,therebyreducingtheriskoffuture can also be triggered by a migration of asymmetric shocks. This argument is factors of production. If a country or often referred to as the endogeneity region is affected by a negative output of the optimal currency area hypo- shock and markets do not clear instan- thesis. Hence, according to the endo- taneously, unemployment will rise. geneity literature, the euro area could Workers will, therefore, tend to mi- gradually become more of an optimal grate to other regions. The same might currency area, after the introduction of be true for capital: if a negative output the euro. More generally, it has to be shock made capital obsolete and re- borne in mind that all empirical studies duced profitability, investors would on whether the countries that have tend to move their funds to other re- entered the euro area constitute an op- gions. This adjustment mechanism has timal currency area are based on histor- two limitations. First, the migration of ical data. These data refer to regimes labour and capital involves transaction with flexible or fixed-but-adjustable

40 Willem F. Duisenberg

exchange rates. In short, the regime risk-capital and securities markets by shift to a monetary union may have 2003. The groundwork for the latter an impact on economic structures was prepared by a Committee of and may alter some of the conclusions WiseMencalledtheLamfalussyGroup. drawn on the basis of these historical On wholesale markets, measures to fa- data. cilitate raising capital on an EU-wide basis, through common rules concern- Progress Made ing prospectuses, is targeted for with Structural Reforms adoption in 2002. In addition, legisla- in the Euro Area tive proposals on financial statements Some people say that central bankers for listed companies and a common are professional sceptics whose job it legal framework for a single market is to point to economic risks and weak- for securities and derivatives are nesses. Having listened to me so far, I close to being can imagine that you may find some de- adopted. We, at gree of truth in this. Let me tell you, the European however,that the euro area has recently Central Bank seen many changes and innovations that (ECB), fully sup- go in the right direction. And I am port these initia- pleased to be able to tell you that many tives. I would of these changes are directly, or indi- like to stress, rectly, related to the euro. Let us have however, that a closer look at three areas of change: the successful and timely implementa- financial markets, product markets and tion of the Financial Services Action labour markets. Plan will be very difficult without the continuing commitment of the Financial Markets Member States. The first area I want to discuss are Theintegrationoffinancialmarkets financial markets. There is ample evi- would not only facilitate cross-border dence that financial markets have some capital flows towards their most pro- way to go before national demarcation ductive uses, but it could also serve lines will effectively disappear. Hence- as a catalyst for structural reform in forth,thereisstillasignificantpotential other markets.Forexample,theimpact for further financial market integration of product market reforms, aimed at in the euro area. Financial market easing the restrictions on creating a integration has been driven by global business, are likely to be reinforced developments, such as advances in in- if a well-functioning risk capital mar- formation technology, falling commu- ket, which efficiently channels the nication costs and standardisation of necessary funds from investors to be- products. It has also been supported ginning entrepreneurs, is in place. by European Commission initiatives. The euro has made a spectacular Amainpolicyinitiativethathascon- impact on financial markets in the euro tributed to financial market integration area. Concrete examples of its impact is the Financial Services Action Plan. are the integration of the money EU Heads of State and Government market, the explosive growth of the have agreed to implement the Financial euro-denominated corporate debt Services Action Plan by 2005, at the market and a wave of consolidation latest, and to achieve fully integrated among intermediaries and exchanges.

41 Willem F. Duisenberg

These are very fundamental changes. theless,animportantunfinishedagenda The surge of euro-denominated corpo- remains to be tackled in almost all net- rate debt, for example, has helped to workindustries.Inorder toreapthefull finance thewave of mergers and acquis- economic benefits, it is important that itions in the European corporate sector reforms in network industries are ac- and shows how a larger and deeper sin- companied by an appropriate regula- gle financial market can help to tory framework which ensures non- strengthen Europes competitiveness. discriminatory access to the bottleneck infrastructure and more generally, a Product Markets level playing field for all market par- Let me now turn to product markets. ticipants. The quality of the regulatory The pace of liberalisation has differed framework has a considerable impact considerably across countries and secon the extent to which potential price tors in the euro area, leaving ample falls due to structural reforms in net- room for further reforms. Whereas work industries will be achieved. the integration of goods markets is Another instrument available to re- relatively advanced, shortcomings still duce distortions to competition is state exist with regard to the integration of aid policy. State aid subsidies weaken service industries. Most of the barriers the incentives for companies to im- to integration in the service sector ap- prove their efficiency, enabling the less pear to be due to national regulations, efficient to survive at the expense of the for example administrative procedures more efficient. Although there are still for setting up subsidiaries in other euro substantial differences between euro area countries. Regulatory barriers area countries, the overall trend is to- along these lines reduce competition wards a reduction in state aid levels. in services, thus keeping prices above Another positive development is that the level that would be expected in a the transparency of state aid policies fully integrated market. has improved as a result of the publica- More progress has been made with tionofanewstateaidregisterandastate regard to the integration of goods mar- aid scoreboard by the European Com- kets and regulatory reforms in network mission. industries. Here too, positive macro- The impact of the euro on these economic effects can be discerned. processes, which has led to more com- Owing to an increased number of competition, cannot be overestimated and petitors, prices in some network indus- goes far beyond the mere abolition of tries,suchastelecommunications,have intra-European exchange rates and the started to decline, in particular in those introduction of common notes and industries and countries which liberal- coins. The single currency opens up ised earlier. The initiatives in the tele- the euro area product markets further communication sector show how re- and will be a major impetus to compe- forms that succeed in increasing com- tition and integration by increasing the petition in previously sheltered sectors transparency of prices across borders. considerably enhance productivity and Investmentwillalsobenefitaseuroarea lower prices. As network industries companies no longer have to insure provide inputs to the rest of the econ- against exchange rate movements omy, this may also increase the rate at within the euro area and there are in- which the economy can grow without deed indications that direct investment creating inflationary pressure. Never- intotheeuroareahasstronglyincreased

42 Willem F. Duisenberg

since the start of EMU. Overall, the time or more flexible working con- euro will give new impetus to the ini- tracts and practices. tiatives taken in the 1980s to establish a In addition to government policies, truly integrated internal market. there are signs of a gradual change in labour market behaviour related to Labour Markets the wage formation process. Discipline Progress with labour market reforms seems to have improved in that field has become evident from the increase over the past decade. Such a change, in employment-intensive growth in the resulting from lower inflation expect- euro area. It is very interesting to note ations, is important. Furthermore, that job creation has held up reasonably there seems to be a growing awareness well over recent years. During the first that, in a single currency environment, threeyearsofEMU,some6millionjobs the price increases and loss of compet- have been created in the euro area versus 3.5 million in the U.S.Theunemploy- ment rate in the euro area has declined from almost 11% in 1997 to slightly more than 8% in 2001 (which is still too high). itiveness generated by excessive wage On the supply side, the employment settlements cannot be compensated rate, particularly in the case of women, by an exchange rate depreciation and has increased considerably, along with may directly result in a loss of jobs. the proportion of part-time jobs and Looking ahead, it is crucial that so- temporary contracts in total employ- cial partners continue to adhere to ment. Euro area average participation moderate wage developments, since ratesare,nevertheless,stillbelowthose this is one of the prerequisites in foster- oftheU.S.or theScandinaviancountries. ing employment and maintaining a The explanations for this job-rich favourable outlook for price stability growth lie in structural changes in in the medium term. In this respect, the labour market and wage modera- there is some cause for concern with tion. Government policies have gener- regard to ongoing wage negotiations. ally improved labour market perform- The wage formation process also ance in euro area countries. A number seems to have undergone changes. In of countries have lowered marginal tax a majority of euro area countries, there rates in order to make their tax systems are signs of a gradual trend towards more employment-friendly. Many more decentralised bargaining and countries have targeted tax cuts at moreflexibilityatlowerbargaining lev- the lower end of the labour market els. This seems to happen, mostly in- in particular.These measures have con- formally, through clauses that allow tributed to a higher demand for low- firms to deviate from the sectoral or skilled workers. Nevertheless, mar- central wage agreements according ginal tax rates still remain high in some to the financial situation of the firm countries. Some progress has also been or sector. This is encouraging.The out- made with the introduction of part- comes of wage bargaining should allow

43 Willem F. Duisenberg

not only for appropriate wage develop- matching process more efficient. In ments in the overall economy, but also addition, euro area countries need to for adequate wage differentiation ensure that tax and benefit systems across sectors, regions and firms. This make work pay. Reforms to tax and will make it easier to account for local benefit systems should increase work conditions, such as unemployment, incentives, profitability and competi- productivity or profitability differen- tiveness and consequently labour sup- tials across sectors, regions and firms. ply and demand. At the same time, it is In short, labour market reforms important to ensure that tax-benefit have, in general, been going in the right reforms are undertaken without jeop- direction in recent years and the bene- ardising the long-term sustainability of fits of these positive developments are public finances. clear. However, progress has been rather uneven Conclusion across countries Joseph Schumpeter taught us that eco- and areas. In nomic development consists of the many areas im- continuous introduction of new com- portant reforms binations of products and means of pro- have not yet got duction. He taught us that this process off the ground. involves the incessant mutation of For instance, the economic structure from within, few changes have destroying the old and creating a been made regarding employment pro- new.Intodaysdynamic, ever-changing tection policies in euro area countries, economic environment, entrepreneurs which remain amongst the strictest in have to be all the more innovative and the industrial countries. Furthermore, sensitive to new opportunities. The in almost all euro area countries, re- regulatory framework has to be de- forms targeting unemployment benefit signed in such a way that it allows this systems have only made slow progress. to happen by providing the right incen- At the same time, significant mis- tives for innovation, dynamism and matches between labour demand and economic growth. supply are still present along a number Todays dynamic society also re- of dimensions. All this shows that large quires an increased ability of markets structural problems remain and need to adjust smoothly to changing eco- to be solved. nomic circumstances. This is all the What needs to be done to speed up more true of a monetary union, where labour market reforms? This is a diffi- member countries are no longer able to cultquestion,notleastbecausetheeuro use country-specific monetary and ex- area labour markets are still very het- change ratepolicies toaddresscountry- erogeneous. Each country should iden- specific shocks. In such an environ- tify the root causes of its labour market ment, other adjustment mechanisms deficiencies and implement appropri- are needed such as price and wage flex- ate corrective measures. However, ibility and factor mobility. Structural there are some areas of reform that reformscancontributetoabetterfunc- applytomany,ifnotall,euroareacoun- tioning of these adjustment mecha- tries. Improved job mediation, educa- nismsbyfostering integrationandcom- tion and training, to mention just a few petition. The relationship between in- examples, all help towards making the tegration, competition and the single

44 Willem F. Duisenberg

currency works in both directions. The as a catalyst for trade. Finally, with euro itself has already contributed to regard to labour markets, the wage more integration and competition formation process shows signs of in- and will continue to do so in the future. creased flexibility and labour market Its impact is most clearly visible in reforms are starting to go in the right financialmarkets,whereasinglemoney direction. Overall, the single currency market has been created and a deep, contributes forcefully to more integra- liquid bond market has encouraged a tionandcompetition,actingasapower- surge in debt issuance by the corporate ful driver for the further enhancement sector.Inproductmarkets,theeurohas of the Single Market and creating an an important impact on the cross- environment which — I am sure — border transparency of prices, acting Schumpeter would have enjoyed. §

45 Anthony M. Santomero Anthony M. Santomero President, Federal Reserve Bank of Philadelphia

The U.S. Experience

with a Federal

Central Bank System

Introduction The role of national central banks in Europe has been a subject of much deliberation, especially since the introduction of the euro. The euro area constitutes avast geography and much economic diversity — characteristics not unlike the United States. It is an honor to participate in this event, which brings together so many prominent individuals from various nations, to discuss this important and timely topic. As a former academic with considerable European experience and a current central banker in the U.S. system, I would like to share with you my perspectives on the U.S. experience with our central banking system. I will leave it to my audience to make the parallels andcontrastswiththecurrentand still emerging structure in Europe. However, I will try, by topic selection, to spotlight relevant points of comparison. As you all know, the Federal Re- serve System (Fed) serves as the central bank of the United States — the epicen- ter of our financial system. It controls Anthony M. Santomero

the monetary base of the economy to Bank of the United States was estab- affectinterestratesandinflation;it pro- lished in 1791, and the Second Bank vides liquidity in times of crisis; and, it of the United States was established ensures the general integrity of our fi- in 1816. Congress gave each an initial nancial system. 20-year charter. Yet, neither was able The Federal Reserves decentral- to muster the political support to have ized structure has been a positive force its charter renewed. Therefore, the in the U.S. economy. I believe it has United States spent most of the nine- proved a vital, and indeed very practi- teenth century without a central bank. cal, structure for our central bank. By the early twentieth century, a Throughout its history, decentraliza- series of financial panics and economic tion has provided the local context recessions further demonstrated the and contact necessary for effective need for a central bank. It became policymaking. widely recognized that the nation re- A key to the success of our decen- quired a more elastic supply of money tralized structure is its flexibility. Tobe and credit to meet the fluctuating sure,thereisnosinglemodelthatworks demands of the marketplace. It also everywhere, orall of the time. In fact, it needed a more efficient infrastructure is just the opposite. The structure of a for transferring funds and making central bank must fit the economic and payments in the everyday course of political realities of the time, or it will business, particularly by check. not survive. It must evolve in response While the need for a central bank to the unique features of the economy it wasclear,sowerethereasonstobewary serves. This adaptation is a constant of one. Many people, particularly small challenge with new twists and turns businesspeople and farmers across the along the way. South and West, were concerned that a central bank headquartered back The Establishment East, in either the financial center of Decentralized of New YorkCity or the political center Central Banking in the U.S. of Washington, D.C., would not be Let me begin with some history. In responsive to their economic needs. 1913, the U.S. Congress established In some sense, this was a replay of the Federal Reserve System to serve the broader governance issue the as our central bank. The System com- United States wrestled with from the prised twelve independently incorpo- beginning of its short national history. rated Reserve Banks spread across The thirteen colonies saw the need to the United States, operating under bind together and form a nation, but thesupervisionofaBoardofGovernors they were wary of ceding power to a in Washington, D.C. national government. It was out of Why did the central bank come that tension that the federal govern- along so late in the economic history ment of the United States was forged of the United States? Moreover, why in my hometown of Philadelphia, was it given such a decentralized Pennsylvania, with the establishment structure? of the U.S. Constitution. The answers to these questions are The Constitution provided for the interconnected. In fact, the United establishment of a federal government States had made two previous attempts that acknowledged and preserved the to establish a central bank. The First rights of the states, and a system of

48 Anthony M. Santomero

checks and balances within the Federal and the dynamics of the marketplace government.Inthisway,powerwasnot were driving the U.S. economy, par- undulyconcentratedinanyoneindivid- ticularly its financial and payments ual or group. systems, into a more fully integrated To galvanize the necessary political entity. The Federal Reserve System support to establish a central bank, would have to integrate the activities President Woodrow Wilson and of its various components as well. In- Congress drew on the now familiar deed, this is exactly what has happened model of a federal structure. That in the Fed over the course of its history, structure, embodied in the Federal and what continues to happen today. Reserve Act of 1913, essentially re- This integration has occurred on all mains intact today. levels, from making policy decisions Overseeing the System is a seven- to managing backroom operations. It memberBoardofGovernorsappointed occurs through by the President of the United States all our central and confirmed by the United States bank lines of Senate. The twelve Reserve Banks, business—mone- spread across the country — from Bos- tary policy, bank ton to San Francisco — each serve a de- supervision and fined geographic area, or District. Each regulation, and Reserve Bank is overseen by its own payment system local board of directors, with some support. elected by the local District banks Yet, the integration continues to and some appointed by the Board of evolve within the context of the Governors in Washington, D.C. The federal structure established almost Reserve Bank board of directors selects 90 years ago. I consider this a testament a president, in consultation with the to the Federal Reserves flexibility, Board of Governors, who serves as and also to the value of its structure CEO and chief operating officer. in achieving the Feds mission. Our founders original vision was Let me be specific about how the that the central in the central bank Fed has evolved its decentralized struc- would be minimized. That is, the Re- ture in each area of its operations. serve Banks would be relatively auton- omous bankers banks providing a full Monetary Policy array of services to the banks operating When the Fed was founded, the notion in their Districts. The Reserve Bank was local economic conditions gener- would extend credit directly to District ated local credit conditions, and re- banks with short-term liquidity needs gional Reserve Banks would help the on a collateralized basis through redis- regional banks address them. Mean- counting. Banks would also maintain while, with the nation on the gold reserve accounts at their Federal Re- standard, the overall supply of money serve Bank and use those accounts to — and hence the long-run price level — clear checks, move funds and obtain was out of the central banks hands. currency for their customers. Today, we think of monetary policy Of course, the original vision of as an independent tool at the central self-contained regional banks began banks disposal to help stabilize overall to erode almost as quicklyas the System economic performance. The establish- was established. Technological change ment of the Federal Open Market

49 Anthony M. Santomero

Committee (FOMC) was the pivotal regional input of both public and pri- event in the evolution of the Fed to vate interests. anindependent,activist,monetarypol- The fundamental insight is, while icymaking body with national macro- therecanbeonlyonenational monetary economic objectives. policy,making the right policy decision Although not formally established is the product of sharing perspectives until 1935, the history of the FOMC from different regions of the country. begins in the 1920s, when regional The Reserve Bank presidents pro- Banks began looking for a source of vide both valuable up-to-date intelli- revenue to cover their operating costs. gence about economic conditions, As you may know, the Fed does not re- and the perspective of businesspeople ceive an appropriation from Congress. about prospects going forward. They Instead, it funds itself from the return glean these from their meetings with on its portfolio. their Banks board of directors, advi- In fact, it was sory councils, informal town meet- with the inten- ings around their Districts, as well tion of funding as the contacts they make in the every- their operations daycourseofoperatingaReserveBank. that each of the Some of this finds its way into our Fed Banks began regional reviews, the so-called Beige to purchase gov- Book, but even this suffers from time ernment secur- lags and a formulaic approach to gath- ities. Eventually, these assets were ering intelligence. Our real time grass- managed collectively by the Federal roots perspectiveisvaluablefor helping Reserve Bank of New York. This port- toovercomethefundamentalchallenge folio became the System Open Market to monetary policy — the effects of long Account, through which the Fed now and variable lags on its impact. conducts open market operations. Beyondthis,theReserveBankpres- Gradually, it was recognized that idents can also bring broader perspec- the Feds open market securities trans- tives on monetary policy.On a theoret- actions had a powerful and immediate ical level, differences can coexist on the impact on short-term interest rates, structureoftheeconomyandtheroleof and the supply of money and credit. monetary policy, with well-known ex- Over time, open market operationsbe- amples of the monetarist perspective came the central tool for carrying out championed by the St. Louis Fed, monetary policy. and the real business cycle perspective Congress created the structure of supported by research at the Minneap- the FOMC in the midst of the Great olis Fed. On a more practical level, Depression. As you all know, the differences still exist in the geographic FOMC consists of the seven members distribution of industries across our of the Board of Governors and the nation. The perspective of some re- twelve Reserve Bank presidents. Be- gions give particularly useful insight causetheFOMCisamixofPresidential into certain parts of our economy, appointees, the members of the Board for example, San Franciscos technol- of Governors, and Reserve Bank pres- ogy focus and Chicagos heavy industry idents, who are selected by their re- concentration. spective Boards of Directors, the Decisions are usually made by con- FOMC is a blend of national and sensus, sounanimousdecisions areusu-

50 Anthony M. Santomero

ally the rule rather than the exception. 23,000 people. Of these, about Nonetheless, we do have a voting pro- 12,000 — roughly half — are involved cedure. The twelve voting members in payments. maketheformaldecisionoftheFOMC. Over theyears, the Fedsdecentral- All seven governors vote at all times, ized structure has given us an advantage while only five of the twelve presidents in supporting the payments system. vote, on a rotating basis. Philadelphia The U.S. has long been a nation of many happens to be a voting member in small banks serving relatively limited 2002. In any case, we all participate geographic areas. Establishing a net- on equal terms in the discussion and work for the efficient movement of consensus building that leads to the money among them is one reason formal policy vote. the Fed was founded. One of the Feds Once the FOMC has made its de- first projects was setting up a check cision on the appropriate target level for the federal funds rate, it is up to the Feds trading desk located at the Fed- eral Reserve Bank of New York to achieve the objective. To facilitate that process, a policy clearing system. In that system, each directive is drafted requesting the ap- Reserve Bank provided the banks in propriate action by the New YorkDesk its District with a local clearinghouse, toachievetheovernightborrowing rate and access to a national clearing target. network through its sister Reserve Time has shown that the structure Banks. of the FOMC uses the decentralized As early as 1918, the Reserve Banks Federal Reserve to its best advantage. also gavethe banks in their District con- Thisstructureallowsfor thegeneration venient access to a national electronic of well-informed monetary policy de- funds transfer network — Fedwire. At cisions at thenational level, plusanabil- that time, the transfers were via tele- ity to communicate our decisions and graph connection among the Reserve rationale to various parts of our nation. Banks. This two-way exchange of information The traditional paper-based means enhances our capability to monitor the of payment — cash and check — still re- economy, and build consensus for the quireadecentralized deliverynetwork. needed policy action. However,over time the movements toward electronic payments and mergers Payments Infrastructure in the U.S. banking industry have been Monetary policy is the role for which driving the Fed toward greater coordi- central banks are best known. But, the nation and consolidation of payments FedalsoplaysanintegralroleintheU.S. services. Accordingly, the Fed has repayments system. In fact, payments organized to provide nationally man- processing is the largest component agedservicesthroughthedecentralized of Fed operations. System-wide, the structure of the regional Reserve Federal Reserve Banks employ over Banks.

51 Anthony M. Santomero

First, at the strategic level, the tion to the Great Depression, the U.S. Federal Reserve has established the Congress passed legislation prohibiting Payments System Policy Advisory commercial banks from engaging in Committee (PSPAC). Its mission is investment banking or insurance to set the direction for Fed payments activities. activities System-wide. Like the During this period in our history, FOMC, the PSPAC is a committee under delegated authority, local Re- of Fed governors and Reserve Bank serve Banks kept a close watch on presidents. the safety and soundness of the local Second,attheoperational level,the banks under their jurisdiction. Reserve Banks coordinate their pay- But, recently, in the U.S. and ments operations through national around the globe, a deregulation wave product offices, reporting to the so- hascutawaythethicketoflimitationson banks activities. Now technology and the marketplace are driving banking organizations to expand their geographic reach and diversify their array of product offer- called Financial Services Policy Com- ings. The result has been the growth mittee. By this means each payments of larger and more complex banking product is centrally managed by one organizations with national or inter- Reserve Bank and delivered as appro- national scale and scope. priate through the Reserve Bank distri- Through this process of change, the bution network. Federal Reservesrole in the regulatory structure has been expanding. Con- Supervision and Regulation gress first entrusted the Fed with the I have discussed the benefits of the responsibility of regulating all bank Federal Reserves decentralized struc- holding companies, and more recently ture on the monetary policy decision we have been assigned the additional process, as well as on its evolving role role of umbrella supervisor for newly in the nations payment system. This formedfinancialholdingcompanies.As structure has also served us well such, the Fed aggregates the assess- in our third area of responsibility, bank ments of other financial service indus- supervision and regulation. try regulators to form an enterprise- As noted a few moments ago, the wide view of risk and protect deposi- U.S. has long been a nation of many tory institutions. small banks, serving local communities To fulfill our responsibilities in this innarrowgeographicareasandoffering new environment, the Federal Reserve relatively limited product lines. This has been transforming its supervision was primarily the result of government and regulation function. Our focus regulation. Long-standing state laws has shifted from point-in-time financial prohibitedbanksfrombranchingacross statement reviews to continuous risk- state lines, and frequently other polit- based assessments; from on-site exami- ical boundaries as well. Then, in reac- nations to early warning systems; from

52 Anthony M. Santomero

strictlyfinancialevaluationstoonesthat the pulse of financial activity across the include increased emphasis on com- country, operate in multiple locations, munity lending and technology. Fur- and coordinate our efforts to assure fi- thermore, in light of the shift toward nancial stability is a testimony to our broad financial holding companies, present organizational design. we are working in closer cooperation Looking ahead,the terrorist attacks with other banking and financial indus- on New York and Washington, D.C., try regulators. have caused many organizations, public In addition, to properly oversee and private, to see new value in a larger, more complex organizations, decentralized operational structure. we have employed new and more so- A recent Fed assessment of the lessons phisticated analytical tools, and have from 9/11 reached a conclusion that consolidated examination reports from applies not only to financial institutions geographically dispersed subsidiaries in general, but to the Federal Reserve into overall financial profiles. System as well: geographic diversity Our approach has been the System- forcriticaloperationsandbackupfacili- wide coordination of bank supervision ties should be a key consideration of to achieve efficiency in staff deploy- business-resumption plans. ment, yet still gain the benefits of specialized knowledge. Still, we have Conclusion maintained face-to-face contact with Since its creation almost 90 years ago, the regulated institutions, as well as the Federal Reserve has survived, and the use of on-site examinations. In succeeded, by evolving. Through Con- the end, even with all the changes in gressional mandates and its own inter- the financial services industry, there nal restructuring, the Fed has proved an is no substitute for first-hand knowl- ever-changing entity, decentralized yet edge of the organization and its leader- coordinated. The trends in the financial ship.OurReserveBanknetworkallows sector implya continuation of the move the Fed to have geographic proximity, toward a single national market, with whichsubstantiallyimprovesourability a growing number of national and in- to know the institutions we regulate. ternational players. As a result, further coordination and consolidation of ac- Lessons from 9/11 tivity is inevitable. Before closing let me say a few words Yet,even as we develop into a more about September 11. The events of that fully integrated organization to better day, and the days and weeks that fol- address our central bank responsibil- lowed, put many aspects of the U.S. ities, we continue to extract value from financial system to the test, and dem- our decentralized structure. onstrated its resiliency. Today, the regional structure of the At the Fed, our response to those Federal Reserve System is one of its events was a coordinated effort across greatest strengths. This has proven true all its areas of responsibility and across bothinnormaltimesandtimesofcrisis. our entire Fed System. We kept the While the process of change will con- payments system operating, provided tinue to challenge the Fed, it is worth- access to credit for affected banking in- whiletoreflectonourstrengthsandour stitutions, and implemented aggressive successes. The Systems structure fits monetaryexpansion.Ourabilitytofeel both categories. §

53 Tito Boeri Tito Boeri Professor, Bocconi University

Does Europe Need

a Harmonised

Social Policy?1)

Introduction The EU Convention is experiencing a slow start. It is quite unlikely that the Convention will actually take off before the German elections. So far, the reference document is the Project for the European Union issued in May 2002 by the Commission, which argues in favour of a co-ordination of social policies. Co-ordination is a rather loose concept which can be located along a widespectrum,rangingfromtheopen co-ordination method of the Luxem- bourg process to something in a close neighbourhood of a harmonisation of social policies, that is, substantially a levelling out of cross-country differences in the scope and composition of social spending. In this paper I try to (normatively) reduce the indeterminacy of the notion of co-ordination.Inparticular,Itakea clear stanceinfavourofsocialpolicyco- ordination as a way to promote a more effective competition across systems.

1 I would like to thank Fritz Breuss for comments on an initial draft and Mauro Maggioni for tireless research assistance. Tito Boeri

Whileitmaysoundasacontradiction in Social Europe(s) and discusses terms, it is not. Insofar as my notion of whether or not they are converging co-ordination allows for more mobility to a unique model. Once established of the European workforce, it implies that this is not the case, section 2 ad- that EU citizens can vote with their dresses the issue assigned to this paper, feet enhancing competition among that is, whether or not EU-level systems. However, a better term than decision-making should pursue a har- co-ordination would be perhaps co- monisation of these different Social competition in social policy provision. Europe(s). Since the answer is no, These issues are typically dealt section 3 concludes arguing about with by economists as a problem of al- the scope of competition among the location of tasks among different levels different restrictions that should be of government. Fiscal federalism imposed on competition among the theory, in partic- different social security systems and ular, offers a the role that EU supra-national author- powerful frame- ities may play in this context. work to assess what should be 1 Are Social Europe(s) assigned to cen- Converging in Any Event? tral, supra-na- Before discussing whether harmonisa- tional, bodies tionofsocialpoliciesisdesirableor not, and what should it is important to evaluate the scope of instead be left as a prerogative of de- the adjustment that would be required centralised policy-making, such as to level out differences in the size and national governments. composition of social spending in When dealing with social policies, Europe. Equally important is to assess however, this framework appears too whether or not a convergence is occur- narrow. The relevant issues in this do- ring across the various systems which main concern more the governance can nowadays be identified in Europe. structure, the rules of co-ordination, It is customary (e.g., see Ferrera, than the degree of centralisation or 1998,andBertolaetal.,2001)todivide de-centralisation by themselves. Due Europe into four social policy models. to the absence of significant spillovers The first group is represented by andeconomiesofscaleinsocialsecurity the Nordics (Denmark, Finland and provision, the case for reallocating Sweden, plus the Netherlands) which tasks to EU supra-national authorities is a hybrid between the Scandinavian is weak. The most relevant issues and the Continental models and has concern, instead, the scope of compe- recently moved northwards1) featuring tition that should be promoted and the highest levels of social protection allowed across the various Social expenditures, and universal welfare Europe(s) nowadays characterising provision based on the citizenship prin- the institutional landscape of the Old ciple. Extensive fiscal intervention in Continent. labour markets, based on a variety of The plan of the paper is as follows. active policy instruments, substantial Section 1 characterises the different tax wedges, and relatively extensive

1 I refer, in particular, to the decision, made in the year 2000 in the Netherlands, to adopt a universal pension scheme and extend the sickness insurance scheme to the self-employed.

56 Tito Boeri

employment in the public sector also and status.1) Their social welfare sys- belong to this model while unions tems typically draw on employment presence in the workplace and involve- protection and early retirement provi- ment in the setting and administration sions to exempt segments of the work- of unemployment benefits generate ingagepopulationfromparticipationin compressed wage structures. the labour market. Also in this case, The second cluster includes the strong unions influence has been pre- Anglo-Saxon countries (Ireland and served by practices (e.g., jurispru- the U.K.), which are closer to the dence) artificially extending the cover- Beveridgian tradition and feature rela- age of collective bargaining.As a result, tively large social assistance of the last wage structures are, at least in the resort schemes. Cash transfers here are formal sector, covered by collective primarily oriented to people in work- bargaining and strongly compressed ing-age. Activation measures are im- in these coun- portant aswell as schemes conditioning tries. access to benefits to regular employ- Table 1 pro- ment. On the labour market side, this vides a simple model is characterised by a mixture of characterisation weak unions, comparatively wide and of the four mod- increasing wage dispersion and rela- els, grouping the tively high incidence of low-pay em- various social ployment, half a way between Europe policy items into and the U.S. four main policy domains: pensions Continental European countries (encompassing old-age and survivors (Austria, Belgium, France, Germany, provisions), non-employment benefits and Luxembourg) are the third group, (unemployment benefits, sickness ben- relyingextensivelyoninsurance-based, efits, invalidity pensions and early re- non-employment benefits and old-age tirement, whenever listed separately pensions. Large invalidity benefit from old-age pensions), family allow- schemes are also present, which draw ances (child-care benefits and family on contributions on employment in- benefits) and social assistance (includ- come, along the Bismarckian tradition. ing means-tested housing benefits). While unions membership rates have Social expenditure is normalised by been falling quite dramatically in the GDP in the first column, while infor- last 20 to 25 years (Boeri et al., mation on the percentage distribution 2001), a strong unions influence has of social spending is provided in the beentoalargeextentpreservedinthese second column. Data are drawn from countries by regulations artificially ex- the European Commission ESSPROS tending the coverage of collective bar- database which offers, to date, the gainingmuchbeyondunionspresence. best framework to assess the size and Finally, we have the Mediterranean composition of social spending in the countries (Greece, Italy, Spain and EU area. Portugal), concentrating their spend- As is apparent from table 1, differing on old-age pensions and allowing ences in levels and composition are not for a high segmentation of entitlements of a second order of magnitude and

1 Note that these countries have implemented universal national health-care systems in between the 1970s and the 1980s. However, I do not deal with health spending in this paper.

57 Tito Boeri

Table 1 Four ªSocial Europe(s)

Continental Northern Anglo-Saxon Southern % GDP % tot. exp. % GDP % tot. exp. % GDP % tot. exp. % GDP % tot. exp. Social assistance 0.95 3.32 1.67 5.97 1.73 6.93 0.18 0.79 Family 2.88 10.14 2.36 8.41 2.26 9.07 0.82 3.65 Pensions 12.33 43.32 11.14 39.72 11.31 45.28 12.92 57.36 Non-Empl. benefits 12.29 43.23 12.87 45.91 9.67 38.73 8.60 38.19 Totals 28.45 100.00 28.05 100.00 24.98 100.00 22.52 100.00 Source: Eurostat, ESSPROS Database (2001). Notes: Figures weighted by GDPs. The country groups are defined as follows: Continental: Austria, Belgium, France and Germany; Northern: Denmark, Finland, the Netherlands and Sweden; Anglo-Saxon: Ireland and United Kingdom; Southern: Greece, Italy, Portugal and Spain.

broadly in line with the taxonomy each model. Yet, in three policy areas offered above (although not all institu- out of four, differences across models tional features can be measured). Uni- capture from 45% to 60% of the total versal non-employment benefits are variation in the composition of social what distinguishes the Nordic model spending.Thiscanbegaugedbydecom- from the Continental model, which posingthetotalweighted(byGDP)sum is focused more on pensions than on of squared deviations of social expen- transfers to individuals in working diture shares (to social expenditure, age. The Anglo-Saxon world (mostly rather than GDP in order to eliminate the U.K. as we are dealing with a variation due to income levels) into GDP-weighted average) displays a a within-models and a cross-models smaller welfare state and one which mean variation (chart 1). The only area devotes comparatively more resources where within-models variation domi- to social assistance of the last resort. nates is non-employment benefits, Finally, Southern Europe displays the which is the most heterogeneous set smallest welfare state, almost sixty ofmeasuresofthefourandtheonemost percent of which goes to public pen- affected by the underlying labour mar- sions, whilst social assistance is ket conditions. negligible. Are these four Social Europe(s) These country groupings should converging in terms of size and com- not conceal important differences in position of social spending? In order the policy mix which arepresent within to shed some light on this issue in a

Chart 1 Decomposition of the Differences in the Social Policy Mix

Non-Empl. benefits

Pensions

Family

Social assistance

0 25 50 75 100 % Models Continental Southern Nordic Anglo-Saxon

58 Tito Boeri

companion paper (Boeri, 2002a), I re- non-employment benefits conver- gressed the growth in social expendi- gence involves a retrenchment of this ture as a percentage of GDP over programme category (Bertola et al., two sub-periods: the period from 2001) which is also consistent with 1980 to 1990 (where we can draw the reduction in unemployment. on the OECD Social Expenditure data- In order to evaluate convergence in base) and the period from 1990 to 1999 composition, it is preferable to adopt (where ESSPROS data are available). In another definition of convergence, that particular, I regressed the average is, sigma convergence. The latter occurs yearly growth rate in social spending when the standard deviation in the over GDP against its initial level for logarithm of social spending decreases the cross-section of countries provided over time. Significantly, I found that by the two datasets. Convergence in the sigma convergence occurred mainly within unconditional sense is implied, accord- the various So- ing to this methodology, if the coeffi- cial Europe(s), cient for spending in the base year is namely the four negative and statistically significant. groups of coun- I could not reject this beta un- tries typically conditional convergence for the OECD used by taxono- countries as awhole. However,the beta mies of the Euro- coefficient implies a very low conver- pean welfare gencerate(less than0.2%per year) and states rather than is barely statistically significant. The between them: the cross-country var- sametypeofconclusioncanbeobtained iation between social expenditure as a with reference to the second sub-pe- percentage of GDP decreased over the riod and for the ESSPROS country period from 1980 to 1996 in all these panel (which includes the EU-15, plus groups of countries. Iceland, Norway and Switzerland). Finally, I looked at an inventory of Furthermore, in both cases interaction reforms assembled at Fondazione variables capturing the effects of EU Rodolfo Debenedetti. The latter is or EMU membership on convergence based on a variety of sources (including were not significant, which suggests country economic reviews carried out that there has not been an additional byOECD,IncomeDataSourcestudies, effect of European integration or the EC-MISSOC reports, etc.), and takes Economic and Monetary Union stock of reforms carried out in Europe (EMU) on the convergence in the size over the period from 1987 to 1999 in of the welfare state. three domains: non-employment As far as convergence in composi- benefits, employment protection and tion is concerned, beta convergence pensions. Reforms are classified on would seem to be occurring only in the basis of their broad orientation, that two policy areas, namely social assis- is, whether they tend to reduce or in- tance and non-employment benefits.1) crease the generosity of non-employ- At a closer look, it appears that in ment benefits and make employment the first case convergence is towards protection more or less stringent, the top levels of provision while for and their radical or marginal nature.2) 1 Also these results are available, upon request from the author. 2 Details on the inventory of social policy reforms produced at the Fondazione Rodolfo Debenedetti are available at www.frdb.org.

59 Tito Boeri

Contrary to popular wisdom and to 2 Should Then These the belief that labour market and social Persistently Diverse welfare institutions cannot be modi- Social Europe(s) fied, many institutional changes have Be Harmonised? occurred over the observation period. There are no a-priori arguments for I counted almost 200 reforms, that is, having EU supra-national authorities more than one per year and country. levelling out differences in the size However the changes have often been and composition of social spending marginal (172 out 198 reforms, that is across EU Member States. The various roughly 85% of the regulatory changes Social Europe(s)described abovemay did not pass our two-stage procedure simply reflect heterogeneous preferen- identifying radical reforms). Moreover ces of EU citizens and the two standard the reforms are almost evenly split arguments for centralised provision of between those reducing generosity public goods (Oates, 1999) — the pres- and protection (107 out of 198, that ence ofsignificant spillover across juris- is, about 55%) and those increasing dictions and economies of scale — have generosity and employment protec- limited application to the case of social tion. It is also not infrequent to find policies.1) reforms going one against the other just A powerful argument in favour of afewyearsapart.These inconsistencies the de-centralisation of social spending and the marginal nature of most re- can actually be made on the grounds forms have significantly increased the that local provision of social security institutional complexity of the Euro- can better exploit local information pean landscape. and deal with the large informational Tosummarise the results in this Section, asymmetries jeopardising theeffective- there are at least four different Social Eu- ness of redistributive policies. The rope(s) and a very mild convergence in the relevance of this argument can be size of social programmes is occurringamong grasped by considering the relative them. To the extent that the cross-country effectiveness of the redistribution op- variability in the composition of the welfare erated in the smallest EU countries. states is decreasing, this is occurring mainly Chart 2 plots differences between within the various Social Europe(s) rather pre and post tax/transfers Gini coeffi- than across them. Institutional changes are cients (vertical axis) against the social occurring at (unexpectedly) high frequen- policy expenditure to GDP ratio.2)As cies, but reforms are rarely comprehensive. one would expect, redistribution is Overall, there are no indications that differ- larger in the countries devoting more ences in the size and composition of social resources to redistributive policies. spending across EU Member States are being More importantly, the most effective levelled-out automatically. redistribution (the larger difference between pre and post tax/transfer inequality per any given level of social

1 See also Fata«s (1998) foran assessment of the economies of scale attainable byadopting a common European social security model. 2 Pre tax and transfer incomes are constructed making use of the European Community Household Panel, a longitudinal dataset providing income and labour market information on about 60,000 individuals across the entire EU. Pre tax and transferincomeiscalculatedastotaldisposableincomeminussocialtransfersdividedbyanet/grossratiofactorprovidedby Eurostat in the European Community Household Panel (ECHP).

60 Tito Boeri

Chart 2 Redistributive Efficiency of Social Expenditure (Entire Population) % reduction in Gini after taxes and transfers

50 SWE 45 DEN AUT 40 UK IRL ESP BEL GER FIN 35 ITA NLD PRT FRA 30 GRC

25 15 20 25 30 35 Social expenditure (% GDP) spending) is observed in the relatively are so different (and still so) one of small European countries, while the another, reforms ought to be respect- largest nations — with the exception ful of the initial conditions and by im- of the U.K. — perform rather poorly posing the same pattern of adjustment in this respect, as they all lie below to the different European social policy the regression line. models, there is a high risk of jeopard- Thistypeofconclusionissupported isingaltogetherreformefforts.Thirdly, also by analyses with micro data, nota- interactions among different tiers of bly (probit) regressions of the probabil- Government may drive decisions and ity of receiving different types of cash the actual implementation of policies transfers against family characteristics far away from the theoretical fiction and income. Targeting on the basis of of a benevolent planner. income and house ownership typically Finally, the case for harmonisation worksbetterintheNordics,Irelandand on pure equity grounds is rather weak. the U.K. In presence of large differences in pro- There are also important political ductivity levels, harmonisation of pol- andpolitical-economiccounter-indica- icies does not imply harmonisation of tions to imposing convergence from outcomes.TheexperienceoftheItalian the top. Firstly, such a harmonisation Mezzogiorno and the German unifica- would run against democratic rules on tion episodes vividly testify this. highly sensitive issues, given that most Overall, there is a strong case for main- EU supranational authorities lack, as taining prerogatives over social policies to yet, political accountability. This may national Governments, and preserving the result in stronger pressures for the unanimity rule in EU-level decision-making break-up of the Union. Secondly, there in this area. Majority voting on these issues is evidence of path dependency and sta- may just end up providing the worse of each tus quo bias in social welfare reforms. welfare system with the countries with the They also work better when they are best social policies in place being always comprehensive (Coe and Snower, in minority. 1997), which means that they need to operate on country-specific institutional clusters.1) As Social Europe(s)

1 See Bertola and Boeri (2002) for a discussion of institutional interactions within the various Social Europe(s).

61 Tito Boeri

3 Rules for Competition job and higher wages. Similarly, mi- Does the above mean that there should grants from North Africa moved so be only negative integration or veto- far to the north-east regions of Italy, bargaining(Cameron,1999)inthefield where there is virtually full employ- ofsocialpolicy?Anumberofarguments ment, jumping over the depressed canbemadetoreducethescopeofcom- labour markets of the Mezzogiorno. petition across European welfare sys- It is just because of this spatial arbitrage tems, which are very much in the spirit that migration prevents overheating in of positive integration. local labour markets, contributing to A quite popular argument in favour contain inflationary pressures. of policy co-ordination at the EU-level Migrants play an even more impor- in this fieldis thatcloser integration and tant role in allowing for non-inflation- more intense competition may induce ary and productivity enhancing em- social dumping and set in motion a ployment growth in presence of wage race to the bottom in social welfare compressing institutions as those char- provision(Sinn,2002). Evidenceinsup- acterising the European landscape port of the view that the European wel- (Boeri,2002b).Migrationflows,inthis fare state is threatened by such type of context, play two useful functions. On pressuresisweaktosaytheleast(Bertola the one hand, they increase employ- and Boeri, 2002) and the discussion in ment and reduce wages in the high pro- section 1 after all suggests that cross- ductivity markets by increasing labour country differences in social welfare supply. On the other hand, migration, systems are far from being arbitraged by acting on centralised wages, reduces away by competitive pressures. labour costs also in the poor regions Yet, there may be other arguments allowing to partially absorb unemploy- forlimitingcompetitionamongwelfare ment in these areas. systems and imposing some co-ordina- Yet,to the extent that differences in tionofsocialpoliciesattheEUlevel.An the generosity of welfare states do not issue which is often overlooked is that replicate the differences in the strength differences in welfare state provision of local labour markets, this important may distort the allocation of migrants. function of migration in promoting TheEUenlargement processprovidesa non-inflationary growth in Europe one-time and unique opportunity to may be jeopardised. There is some evi- reduce the wide differences in produc- dence that welfare shopping may be tivity levels across the old continent. occurring within the migrant popula- This means growing faster after the en- tion, if not among the European pop- largement and having less undesirable ulation at large. Immigrants to the EU redistributive effects of accession, pro- from non-EU countries tend to receive vided that migrants do indeed go to the proportionally more social transfers countries and regions with the tightest than the native population (Sapir, labour markets and highest labour pro- 2000). Moreover not all the differences ductivity levels. Migrants tend to play in access to welfare can be explained by this spatial arbitrage function (Borjas, observable characteristics of migrants 2002). Those from Eastern European (i.e., the number of dependent chil- countries to Germany jumped over dren, their marital status and skill the eastern La‹nder to find a residence level). In some of the European coun- in the western part of the country, tries with the most generous welfare which offers better chances to find a systems(Denmark,Belgium,theNeth-

62 Tito Boeri

erlands, Austria and France) there are important role in drawing lessons from indeed indications that a rather mild these experiments and identifying best form residual dependency is present practices. thereby non-EU citizens receive social This type of co-ordination could be transfers more than what can be pre- strengthened by assigning more rele- dicted on the basis of their character- vance to quantitative targets like those istics (McCormick et al., 2002). established in terms of employment Against this background, the adop- rates at the 2000 EU Summit in Lisbon. tion of a common EU-wide safety net, The idea of New Maastricht for Labour adjusted to reflect cross-country and is very much in this vein. It would cross-regional differences in the cost- also require a different timing and of-living, can be envisaged as a way organisation of the review process. to avoid distorting the distribution of Under the so-called Luxembourg enlargement-related migration over process, supra-national institutions Europe.1) It is a one time opportunity set employment guidelines which to receive migrants who, because of offer the basis for the development of cultural and historical ties, can be read- National Action Plans by the Govern- ily assimilated within Europe. This op- ments of the Member States. The plans portunityshouldnotbelostbyinducing and the achievements are subsequently migrants to choose the country or re- verified by the means of an institution- gion of destination based on criteria — alised procedure, selecting the best such as access to relatively generous practices (so-called benchmarking) safety nets — which are unrelated to anddrawingupcountryspecificrecom- labour market fundamentals. mendations. Stronger co-ordination An additional reason for having a along these lines should be explicitly mild form of positive integration is that directed to the Structural Spring Sum- social policy is a domain of ongoing mits of the Council. policy experimentation. Supra-national Another direction in which co-or- bodies can be in a better position than dination could be extended is in assign- national Governments to assess pros ing powers to the European supra- and cons of the various models, are national authorities in imposing im- not subject to pressures of local lobbies provements in the administration of in benchmarking schemes which better welfare policies in the various coun- serve specific interests and have typi- tries, e.g.in conditioning cash transfers cally longer horizons than national to able-bodied individuals in working governments (and horizons are crucial age to stringent work-tests. in areas like pension reforms). Open Finally, co-ordination needs to be co-ordination2) mechanisms, as those supported by imposing more trans- devised at the EU level in fields like parency in social policy expenditure labour policies and social protection accounts. Common standards may (mainly social inclusion) can play an be adopted to estimate the debt of pub-

1 There are also arguments for imposing minimum standards to the accession candidates (see Boeri et al., 2002, for a discussion). 2 Although not explicitly stated, open co-ordination is sometimes considered as a kind of preparatory stage for the enhanced co-operation, already mentioned in the Treaty of Amsterdam and now explicitly called for by the Nice Treaty: after a breaking-inperiod,acertainnumberofcountriesmoreinterestedandopentotheideaofafederalEuropecouldmoveonfrom open co-ordination to enhanced co-operation — that is greater integration as concerns substance and decision-making instruments.

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lic pension systems, develop social the Opinions of European Citizens. Forth- policy expenditure projections and coming in: American Economic Review. provide generational accounts which Boeri, T., A. Brugiavini, and L. Calmfors can best isolate the various (often (eds.) (2001). The Role of the Unions in improper) functions played by public the Twenty-first century. Oxford University pension in the EU countries. Some Press. progress has already been made in this Borjas, G. (2002). Comment on Immigra- direction, for instance imposing to all tion and the U.S. Economy: Labor-Market countries the provision of long-term Impacts, Illegal Entry, and Policy Choices. (lasting at least 50 years) projections In: Boeri, T., G. Hanson, and B. McCormick of pension expenditure and making (eds.) (2002). Immigration Policy and the sure that these projections are based Welfare State. Oxford University Press. on explicit and internally consistent Cameron, C. (1999). Veto Bargaining: hypotheses, jointly agreed upon by a Presidents and the Politics of Negative working group of the EU Economic Power. Cambridge University Press. Policy Committee (Boeri et al., Coe, D. T.,and D. J. Snower (1997). Policy 2001). But more ground has to be cov- Complementarities: The Case for Funda- ered in this context. § mental Labor Market Reforms. IMF Staff Papers, Vol. 44, No. 1. References Fata«s, A. (1998). Does EMU Need a Fiscal Bertola, G., and T. Boeri (2002). EMU Federation? In: Economic Policy, April: Labour Markets Two Years On: Microeco- 165—203. nomic Tensions and Institutional Evolution. Ferrera, M. (1998). The Four Social In: Buti, M., and A. Sapir (eds). EMU and Europes: between Universalism and Selec- Economic Policy in Europe: The Challenge tivity. In: Rhodes, M., and Y.Me«ny (eds.). The of the Early Years. Edward Elgar. Future of European Welfare. A New Social Bertola, G., T. Boeri, and G. Nicoletti Contract? London/New York. MacMillan (eds.) (2001). Welfare and Employment Press/St. Martins Press. in a United Europe. Cambridge Mass., McCormick, B., H. Bru‹cker, G. S. MIT Press. Epstein,G.Saint-Paul,andA.Ventur- Boeri,T.(2002a).MakingSocialEurope(s) ini. (2002). Managing Migration in the Compete. Paper prepared for the Confer- European Welfare State. In: Boeri, T., G. ence at Harvard University on Transatlantic Hanson, and B. McCormick (eds.). Immigra- Perspectives on U.S.-EU Economic Rela- tion Policy and the Welfare State. Oxford tions: Convergence, Conflict and Co-op- University Press, forthcoming. eration, April 11—12, 2002. Oates, W. (1999). Fiscal Federalism. In: Boeri, T.(2002b). Increasing the Size of the Journal of Economic Literature. European Labour Force: the Relevant OECD (1999). Employment Outlook. Tradeoffs. Paper prepared for the 2002 Sapir,A. (2000). Who Is Afraid of Globaliza- ECE Spring Seminar. tion? The Challenge of Domestic Adjust- Boeri, T. (2001). Introduction: Putting the ment in Europe and America. Paper pre- Debate on a New Footing. In: Bertola, pared for the Conference on Efficiency, G., T. Boeri, and G. Nicoletti (eds.). Welfare Equity and Legitimacy: The Multilateral and Employment in a United Europe. Trading System at the Millennium. Cambridge Mass., MIT Press. Sinn, H.-W. (2002). The New Systems Boeri, T., A. Bo‹rsch-Supan, and G. Competition. Yrjo‹ Jahnsson Lectures, Ox- Tabellini (2002). Pension Reforms and ford, Basil Blackwell, forthcoming.

Fritz Breuss Fritz Breuss Professor, University of Economics and Business Administration Vienna

Comments

on Tito Boeri,

Does Europe Need

a Harmonised

Social Policy?

Professor Boeri has presented an excellent paper. I am nearly convinced by all his arguments. Nevertheless a discus- sants job is to develop some complementary or alternative ideas. In respect thereof I will discuss the paper in four parts: — first, I will question Boeris story of four European social policy models; — second, I will briefly sketch the history of the development towards a European Social Policy; — third,Iwilldiscussthepossiblecon- straints for social policy in view of the Stability and Growth Pact; — fourth, I will point to some possible implications EU enlargement might have on social policy. Fritz Breuss

1 FourorOnlyOne the governments prefer not to spend European Social Model? too much on social security. This AlthoughBoerirightlypointstothefact group of countries forms the so-called that it is customary to divide Europe American Social Model. Either because into four social policy models (group- they feel that market failures are not ing the Nordic, the Anglo-Saxon, the present in the field of social policy ContinentalEuropeanandtheMediter- or simply because they believe that ranean countries), the presidency con- in a capitalist society each person clusions of the Lisbon European Coun- can and should care by herself or him- cil of March 2000 speak only of the self (neo-liberal attitude). European social model. Looking at Then there are countries which are the data on public social expenditures not rich enough to afford too much and GDP per capita it is easy to cate- public spending on social security. This gorize the 29 OECD countries into group forms a model, called the Poor three groups (see chart 1). Countries Social Model. Within the EU There is one group of rich Euro- Greece, Portugal and Spain are mem- pean countries (11 EU countries plus bers of this group. Additionally the can- Switzerland) which can afford and also didate countries in Central and Eastern prefer to spend more on social security Europe also belong to this category. measures (may be also because they believe in market failures in the field 2ABriefHistoryof of social policy) than other countries. European Social Policy This group — following the wording of InthefieldofsocialpolicytheEuropean the Lisbon European Council — one can Union has gone a long way from a sit- call the European Social Model. uation of pure Member States compe- Then we see a group of rich coun- tence to a mixed or shared competence tries in Europe and in non-European nowadays with primarily ruling mini- OECD countries — like the EU coun- mum requirements and maintaining tries Luxembourg and Ireland and the country-specific specialties. From the U.S.A., Japan and Canada — where the Rome Treaty of 1957 to the Nice

Chart 1 Social Expenditures and Economic Development in 1998

Public Social Expenditures in % of GDP European Social Model

30 S Poor Countries DK F CH Social Model D A N 25 FIN I UK B NL PL EL L 20 NZ CZ E P AU IC CAN 15 IRL JAP USA SK 10 TK American Social Model MEX 5 KOR 20 40 60 80 100 120 140 160 180 200 GDP per capita (PPP; OECD Total = 100)

Source: OECD.

68 Fritz Breuss

Treaty of 2000 social policy in Europe EQUAL. It finances around one changed gradually from a mere national third of total EUs structural policy to a more and more European agenda. actions. The ESF contributes to We still do not have a real European reach the target laid down in Social Policy but a mixture of national Article 2 EC Treaty (the raising and EU legislature in this field. of the standard of living and quality — 1957: In the Rome Treaty social of life, and economic and social policywasanexclusivecompetence cohesion and solidarity among of the — at that time — six Member Member States). States. At the beginning there was — 1974: The EC started its first social a debate similar to that of today policy action programs in 1974. whether the Social Policy should Due to the bad timing — the first be centralized (harmonized) or re- oil price shock resulted in a main in the competence of the MemberStates.AttheMessinacon- ference 1956 preparing the EC Treaty France demanded a wide harmonization of the social security systems (centralist position), arguing that its high social costs would hamper their competitiveness in the common market. Germany on the other hand argued that social world-wide recession — this pro- costs were natural costs which gram was condemned to fail. would result of the different condi- — 1993: With the Maastricht Treaty tions of locations, which in its di- for the first time it was tried to in- versity would not be able to be tegrate social policy into Commun- harmonized (de-centralist posi- ity policy. Due to the hostile atti- tion). Cost equality would be alien tude of the conservative U.K. gov- to a modern economy based on the ernment of that time only a proto- division of labor. In the end the col on Social Policy entered into claim for a social harmonization the Treaty. had been canceled. Only in Article — 1999: With the Amsterdam Treaty 119(equalpayfor menandwomen) — in the meantime the government and Article 120 (equality of paid in the U.K. switched from Conser- work) entered into the EC Treaty vative to Labor — for the first (Schulz, 1996, p. 16). time social policy entered into — 1960: Already set up by the Treaty the EC Treaty (Article 136; ex of Rome (1957), the European Article 117). Together with the Social Fund (ESF) came into force introduction of a new title on em- in 1960 and was and still is the main ployment (Title VIII) as a reaction financial tool of EU social policy. to the start of Stage Three of Eco- Today it translates the European nomic and Monetary Union Employment Strategy into action. (EMU), encouraged by both the The ESF is the longest established French and Swedish Presidencies, Structural Fund financing actions combined with a common employ- in the areas of objective 1 through ment strategy with specific targets 3 as well as in the special action being transposed annually into

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National Action Plans for Employ- to 2000) the Nice Treaty started ment (NAPs) by the EU Member a new attempt with the Social Pol- States, the nexus social policy icy Agenda. The EUs social policy and employment got a high profile agenda is the EUs roadmap for within the EU. This plans coincided modernizing and improving the with plans to modernize the Euro- European social model by investing pean social model. Now — in the inpeopleandbuildinganactivewel- wordsofthesecretariatoftheEuro- fare state. It should contribute to pean Convention — Social Policy is a achievingthestrategicobjectivede- concurrent/shared competence fined at the Lisbon European Coun- between the EU and its Member cil in March 2000 (to become the States (Convention, 2002). The most competitive and dynamic major principles of a European knowledge-base economy in the Social Policy are: world, capable of sustainable eco- (i) according to Article 137 EC nomicgrowthwithmoreandbetter Treaty (ex Article 118) the jobs and greater social cohesion). EU Council legislates with The so-called Lisbon process with qualified majority (by means its newopen method of co-ordination of directives) on minimum re- — based on benchmarks and best prac- quirements/standards in the ticeannualcontrollingmechanism—isa EU inthe fieldsof improvement goodinstrumentofmutuallearningand of the working environment to improving social policy in EU Member protect workers health and States, sometimes also called the Soft safety, working conditions, EconomicPolicyCo-ordination(Hod- the information and consulta- son and Maher, 2001) without denying tion of workers, the integration national differences in preferences and of persons excluded from the financial potential for public social ex- labor market, equality between penditures. The new provisions of the men and women with regard to EC Treaty (Article 138) favor a strong labor market opportunities and dialoguebetweenEuropeansocialpart- treatment at work; however ners. unanimity is still required in the areas of social security 3 Is the Stability and social protection, protec- and Growth Pact tionofworkerswheretheirem- a New Constraint or ployment contract is termi- an Assistance for a nated, representation and col- European Social Policy? lective defense of the interests One might argue that the emergence of of workers and employers etc.; new production technologies, the (ii) modernizing the European so- growth of the knowledge-driven econ- cial model is a strong case omy (new economy) and globaliza- for subsidiary (Adnett, 2001, tion, together with the adoption of p. 360) — a notion normally dif- EMU, have fundamentally changed ficult to fill with life. But social the trade-off between the EUs eco- policyistheproperareatoapply nomic and social objectives. The lost this notion in practice. of one policy instrument (exchange — 2000: After several social action rate) imposes more weight to national programs (1995 to 1997; 1998 wage policy as a buffer to absorb asym-

70 Fritz Breuss

metric shocks. A greater labor costvar- new rules the European Commission iability between and, within, EU labor undertook for the first time (EU, markets are needed in EMU. Further 2002a, pp.80ff)ananalysisonthequal- more, the specific co-ordination set- ity (composition) of public expendi- up for economic policy in case of tures, including social expenditures the EMU in the form of the Stability which amount to around half of total and Growth Pact has constraint not public expenditures in most EU coun- only national public finance but also tries. the quality thereof. As a consequence, The components of public expen- the Lisbon European Council de- ditures (see chart 2) can be classified manded a modernization of Social according to their contribute to growth Europe (Adnett, 2001). and employment (efficiency) in four Since the start of EMU the rules- categories (see EU, 2002a, pp. 85—86): basedframeworkforbudgetarysurveil- — category 1: Spending on interest pay- lance (annual presentation of stability ments always negatively affects and convergence programs by the growth and employment as these EU Member States within the frame- resources crowd out spending for work of the Stability and Growth Pact more productive purposes; procedure) has undergone a consider- — category2:This consist of oldageand able change. Starting with only budget- survivor expenditures, collective con- ary balance targets (close to balance or sumption and compensation of public in surplus) in July 2001, the ECOFIN employees. Some public spending Council revised the Code of Conduct may be efficiency-enhancing, the on the content and presentation of decreasing effects, however, arise stability and convergence programs. beyond a certain level of spending. Besides a more coherent statistical def- High levels of spending may crowd inition of the targets, it extended the out other efficiency-enhancing ex- coverage of programs to include sec- penditures. Very high levels of tions on the quality and sustainability spending on pensions have a nega- of public finance in line with the so- tive impact on savings and capital called Lisbon process. Under this accumulation;

Chart 2 Efficiency of Public Spending

Efficiency GDP growth/employment Category 3 Category 2 Category 4

Expenditures/GDP

Category 1

Source: EU (2002a), p. 85.

71 Fritz Breuss

— category 3: This includes social expen- penditures. France, Germany,Finland, ditures on disability, social exclusion, Sweden, Austria and the Netherlands housing, family/children allowances rank at the top according to efficiency and unemployment transfers. Public of their expenditures. This group also spending on these items has a pos- spends most on social expenditures. A itive impact on efficiency provided second group — spending also a consid- it is kept within certain limits. Very erable amount on social expenditures — high expenditures are likely to have ranks at the bottom: Belgium, Den- a negative impact on efficiency due mark, United Kingdom, Greece and to moral hazard problems and ben- Italy. The third group consists of Spain, efit dependency; Ireland and Portugal which spend very — category 4: Here are included expen- little for social affairs and ranks in the dituresineducation,activelabor market middle as far as efficiencyof total public policies (ALMP), health, R&D and gross expenditures are concerned. fixed capital formation. These expen- Not only the new attitude towards dituresareconsideredtohaveapos- fiscal policy in EMU in the short- and itive effect on economic efficiency medium-run may constraint social pol- (see the insights of the literature on icyorleadtoamoreEuropeancoherent endogenous growth theory) up to a expenditure pattern on the lines de- certain limit, beyond which addi- scribed above (efficiency considera- tional spending may have negative tions) but the long-term challenges effects. These limits seem not yet posed by ageing populations require been reached in EU countries. considerations of sustainability of pub- With the help of a synthetic indica- lic finances in general and social policy tor of expenditure composition (see in particular. Many studies point to the EU, 2002a, pp. 89 ff) the European problems of ageing populations. A re- Commission quantified the quality cent study by the Economic Policy of EU Member States public finance Committee (EU, 2001) studied the im- at the end of the 1990s. In chart 3 pact of ageing populations on the long- the ranking of the efficiency indicator term (over the next 50 years) sustain- is correlated with the public social ex- ability of public finances. As a results of

Chart 3 Efficiency of Public Expenditures, End of the 1990s

Efficiency indicator (Ranking, 14 = best)

14 F D 12 FIN S 10 A NL 8 E IRL 6 P B 4 DK 2 UK EL 0 I 14 16 18 20 22 24 26 28 30 32 Public social expenditures in % of GDP Source: EU (2002a), p. 88, and OECD.

72 Fritz Breuss

an assumed decline of population be- latedwithGDPpercapita.Comparable tween 2000 and 2050 by 3% on EU data for OECD member countries average (with extreme cases of —17% Czech Republic, Slovakia and Poland in Italy; +29% in Luxembourg and show that these CEECs belong to the +26% in Ireland) the public pension Poor Countries Social Model. expenditures will increase by around The difference to the start with the three percentage points in EU average, EC in 1957 is that the new member with the highest increases in Greece countries have to take over the acquis (over+12percentage points) andSpain communautaire in general and of (+8 percentage points). In an average coursethosefor socialandemployment EU debt country — starting with a bal- policies in particular. In the negotia- anced budget — the budget balance tions for enlargement Social Policy would turn into a deficit of around and Employment is dealt with under 6%ofGDPinthebaselinecaseandpub- chapter 13. This lic debt would increase from 60% to chapter covers 80%. Again category pension expendi- areas where tures have to be slowed down. Other- there exists sub- wise other social expenditures would stantial secon- be in danger in the future. dary legal acquis Overall,theEuropeanSocialModel at EU level, such — so called by the European Councils — as health and could be more and more realized on the safety issues, la- one hand because of a more sound legal bor law and equality of treatment be- basis in the EC Treaty as well as the spe- tween women and men, as well as areas cific attention which is given to it in the such as social dialogue, employment Social Policy Agenda in conjunction andsocialprotectionwhereconvergent with a deliberate concentration on im- policies are being developed, on the ba- proving employment conditions sis of the EC Treaty.In these areas there (NAPs) and on the other hand because are no legal obligations to implement of the constraints exerted by the sur- precise policy measures but a very im- veillance and co-operation procedure portant general obligation to co-ordi- within the Stability and Growth Pact. nate the respective policies in order to develop a homogenous social frame- 4 EU Enlargement — workinlinewiththeprincipleandrules Possible Impact of the EU Treaty. Chapter 13 has been on Social Policy? closed with all 12 candidate countries; With the Enlargement of the EU by 10 however, half of them have negotiated (in 2004) or later more new countries, for transitional arrangements to imple- most of which are poor — GDP per ment EC directives for minimum social capita in PPPof the Central and Eastern standards (EU, 2002b). European Countries (CEECs) on aver- Although at first sight low levels of ageamounts toaround40%ofEU aver- social expenditures mean low labor age — the Union seems to start anew costs and hence a competitive advant- with a European social policy. Enlarge- age of these countries, a look at The ment is an economic unification of World Competitiveness Scoreboard rich and poor countries. As we have 2002 of IMD Lausanne shows that seen from chart 1, public expenditures there seems to be a positive correlation for social policy are positively corre- between GDP per capita and the rank-

73 Fritz Breuss

Chart 4 World Competitiveness and Public Social Expenditures

IMD World Competitiveness Scoreboard 2002 (Ranking, 29 = best) USA FIN 25 L NL CH DK CAN 20 IRL IC A S AU D 15 UK B N NZ 10 F KOR E JAP CZ 5 I P EL MEX SK 0 TK PL 5 1015202530 Public Social Expenditures in % of GDP (1998)

Source: IMD, The World Competitiveness 2002, Lausanne.

ing of world competitiveness. And verge despite the considerable efforts because public social expenditures of EU structural and cohesion policy are positively correlated with GDP in the last decade. A harmonization per capita (see chart 1) there is also of social standards is only necessary in- a weak positive correlation between sofar as the functioning of the Single competitiveness and social expendi- Market is at risk. tures (see chart 4). However, the big question remains Most of the countries grouped into whether the huge income differential the European Social Model (see between the old EU Member States chart 1) are ranked high in the IMD and the candidate countries in the East World Competitiveness Scoreboard may — if full freedom of labor move- 2002, those countries belonging to ment is allowed in the enlarged EU the Poor Countries Social Model Single Market — lead to a migration rank low as far as international compet- wave. Many studies on possible migra- itivenessisconcerned.Hence,compet- tion flows indicate a high potential of itiveness is more than just a matter of migration of labor (e.g., see Boeri (labor) costs. Entrepreneurs evaluate and Bru‹cker, 2000). However, on competitiveness in a broader sense the one hand the countries where most and expect from richer countries also of the potential migrants are expected more non-cost competitiveness com- to enter (Germany and Austria) have ponents (factors!). opted for a seven year transitional ar- Taking the relationships between rangement in the field of Freedom of social expenditures and competitive- movement for persons (chapter 2 in ness as given, the new Member States the enlargement negotiations — which from Eastern Europe are no menace for covers also co-ordination of social se- the old EU Member States in the Single curity schemes; see EU, 2002b) on the Market. Therefore one must not urge other hand past experiences of enlarge- for more harmonization in social policy ments with Greece (1981) as well as affairs when the EU is enlarged. A con- with Portugal and Spain (1986) have vergence of the level of social policy seen no big migrant flows. § expenditures is only possible insofar as GDP per capita converges. With the great exception of Ireland, the EU cohesion countries did not con-

74 Fritz Breuss

References Policy Committee, Brussels, October 24 Adnett, N. (2001). Modernizing the Euro- (EPC/ECFIN/655/01-EN final). pean Social Model. In: Journal of Common EU (2002a). Public Finances in EMU 2002. Market Studies, Vol. 39, No 2, June: European Economy, European Commis- 353—364. sion, No. 3, Brussels. Boeri, T., and H. Bru‹cker (2000). The EU (2002b). Enlargement of the European Impact of Eastern Enlargement on Employ- Union: Guide to the Negotiations — Chap- ment and Labour Markets in the EU ter by Chapter. European Commission, Member States. DIW, CEPR, FIEF, IGIER, Brussels, June 4. IHS, Berlin and Milano. Hodson, D., and I. Maher (2001). The Convention (2002). Delimitation of Com- Open Method as a New Mode of Govern- petence Between the European Union and ance: The Case of Soft Economic Policy the Member States — Existing System, Co-ordination. In: Journal of Common Problems and Avenues to Be Explored. Market Studies, Vol. 39, No. 4, November: The European Convention, The Secretariat, 719—746. CONV 47/02, Brussels, 15 May 2002 Schulz, O. (1996). Maastricht und die (17.05) (OR. fr). Grundlagen einer Europa‹ischen Sozial- EU (2001). Budgetary Challenges Posed politik: Der Weg — Die Verhandlungen — by Ageing Populations: The Impact on Die Ergebnisse — Die Perspektiven. In: Public Spending on Pensions, Health and Schriften zur europa‹ischen Integration, Long-Term Care for the Elderly and Pos- Band 1, Carl Heymanns Verlag KG, Ko‹ln sible Indicators of the Long-Term Sus- — Berlin — Bonn — Mu‹nchen. tainability of Public Finances. Economic

75 Hans-Werner Sinn Hans-Werner Sinn President, Ifo Institute for Economic Research

The New Systems

Competition1)

The New Systems Competition The unbridled economic strength of capitalist economies brought communism to its knees. Centrally planned economies took their leave from the stage of history in disgrace. Who would deny that this systems competition produced beneficial results? Thiswasofcourseaformofsystems competition that has lost most of its importance today and that has given way to a new systems competition. Thegoaloftheoldsystemscompetition between communism and capitalism was economic, cultural and military dominance, and it took place amidst closed borders in the form of mutual observation, imitation and innovation. The new systems competition, however, is a competition for locational advantage that is primarily driven by the international migration of people and production factors. In the words of Albert Hirschman (1970), exit, or voting with ones feet, characterises the

1 This lecture synthesises material the author presented at the occasion of his Yrjo‹ Jahnsson lectures, Helsinki 1999, at the annual meeting of the Verein fu‹r Social- politik, Magdeburg 2001, and a Conference at the occasion of the 50th anniversary of the Department of Economics of Norges Handelshoyskole organised in co-operation with the Nobel Prize Centennial. Hans-Werner Sinn

new systems competition. Voice and faced during the past two centuries. loyalty were forces that used to play It is no longer a matterof implementing the more important roles in the com- wise, internal policies to guide a largely petitive processes of the past. autarkic economy to a position of eco- All national economies today are nomicstrength,socialpeaceor military confronted with the forces of globalisa- dominance.ThestrategiesofBismarck, tion. Goods and capital have been able Stalin or Roosevelt are no longer called to cross borders unrestricted for some for. Governments today must be aware time, and international direct invest- of the effects that national institutions ment is gaining importance. A growing have on the cross-border transfer of number of firms are shifting their loca- economicactivities.Taxes,socialtrans- tions to low-wage and low-tax coun- fers, public goods, regulatory systems, tries in order to prevail in increasingly laws and many other factors are just as intense inter- influential in motivating the movement national compe- of people and production factors as tition. At the wages and other economic fundamen- same time, pov- tals that are not directly influenced by erty refugees government. No state can afford to from all over frighten off mobile capital as a result the world are of grossly inefficient institutions, just pressing into as no state can afford to be a magnet the richer indus- for the poor of this world. Similar to trial countries to participate in the a private company, a state competes blessings of the welfare state. for good customers and tries to ward Globalisation is not a completely off the freeloaders. newphenomenon.1)Under theoldcol- onial system, international trade and The Euro, Capital Markets capital flows as a percentage of the na- and Systems Competition tional product reached significant lev- Understanding the new systems com- els.Attheendofthenineteenthcentury petition is especially important for one can even speak of a world labour Europe, since what has been said about market. This is at least the impression the world applies in particular measure left by the enormous migration flows at for Europe. The mobility of economic the time. Nevertheless, with multina- factors, the driving force of systems tional corporations, the problem has competition, will have a much greater nowtakenonnewdimensionsthatwere impact on inner-European relations hardly conceivable not too long ago. than brought about by the previous imi- The mobility of people, goods and tation and innovation competition of production factors places great com- systems. petitive pressures on the countries of The introduction of the euro is a this world. They create a systems com- particularly important step in this con- petition that is entirely different from nectionbecausetheeuroisasymbolofa the already concluded competition be- new liberalism and enhanced economic tween communist and market-econ- integration in Europe. People, goods, omy systems or also from the competi- services and capital can pass borders tion that the European nation states without restrictions. The four basic

1 See Borchardt (2001).

78 Hans-Werner Sinn

Chart 1 Convergence of Long-Term Interest Rates

Ten-Year Government Bonds in % p.a.

3 1994 1995 1996 1997 1998 1999 2000 2001 France Belgium Germany Finland Italy Austria Spain Netherlands Source: Deutsche Bundesbank, Database. freedoms, guaranteed in the Treaty of was the so-called locational-safeguard- Romealreadyin1957,havefinallybeen ing law (Standortsicherungsgesetz) of implemented. 1993 — by the locational competition The euro has not only helped to that Germany is engaged in. Germany open doors in Europe politically. It is has come in last among EU countries in also directly increasing the inner-Euro- recent years in terms of economic pean mobilityof productionfactorsand growth. The lowering of the corpora- goods. In the past, the uncertainty of tion tax rate to only 25% is meant to exchange-rate movements has bur- bring a trend reversal and to prevent dened cross-border trade with not in- capital from leaving the country. considerable risks and hedging costs. Sweden and Austria have also had For Germany, the Netherlands and extensive debates on their attractive- Austria, which were protected by ness as investment locations which have the German mark, this brought the ad- led to courageous tax reduction meas- vantage of unmatched, low interest ures. Sweden and Austria have even rates.Allthisnolongerapplies.Interest eliminated the synthetic income tax rateconvergence,asshowninchart1,is by taxing interest income at a lump nearlycomplete.Theeurohas createda sum rate of only 30% and 25% respec- nearly perfect inner-European capital tively. and goods market and thus the prereq- Capital reacts particularly sensi- uisiteforafreeunfoldingoftheforcesof tivelytothetaxationofinterestincome. systems competition. After the German government an- TheGermantaxreformof2000can nounced the introduction of a 10% beseenasareactiontothisdevelopment source tax on interest income in since it was explicitly justified — as autumn 1987, considerable amounts

79 Hans-Werner Sinn

of capital left the country during the U.S. companies that operate in the following six quarters. Long-term cap- EU fell by more than 12 percentage ital imports of DEM 3 billion in the points between 1986 and 1992 (see year before the announcement turned chart 2). Germany was merely a fol- into long-term capital exports of lower in implementing these reforms. DEM 95 billion in the year after the Ireland has pursued a particularly announcement.1) The evasive reactions aggressive locational-safeguarding pol- were so great that Germany was forced icy by sufficing itself with a corporation to rescind the law only four months income tax rate of only 10% for an in- after its introduction. The second at- creasing number of sectors. In 1987 tempt made in 1992 to tax interest in- Ireland extended this regulation, which come at source was only apparently wasoriginallylimitedtomanufacturing successful since evasive reactions failed and special service industries, also to to materialise only because the govern- financial services within the Inter- ment this time did not tax interest in- national Financial Service Centres in comeearnedinGermanybyforeigners. Dublin and Shannon Airport. This Theerosiveeffectswerenotlimited led to considerable capital flows to to the tax on interest income. Corpo- Ireland. Other governments reacted ration income tax is also having a diffi- by changing legislation on external cult time in systems competition. Since tax relations of domestic firms which the dramatic income tax rate reduction allowed the revenue authorities to from46%to34%thattheUnitedStates tax income from borrowing trans- introduced in 1986, many countries actions. responded with similar tax reforms The Netherlands and Belgium have andalso lowered their rates. As aresult, also followed the Irish example by theaverageeffectivetaxburdenthatthe granting special conditions to the finan- present 15 EU countries impose on cial and service industries that locate in Chart 2 Average Tax Burden for Subsidiaries of U.S. Companies in Europe:

Reaction to U.S. Tax Reforms of 19861)

0.45

0.40

0.35

0.30

0.25

0.20

0.15 1986 1988 1990 1992 France Western Germany Italy EU-15 United Kingdom Source: Altshuler, Grubert, and Newlon (1998). 1) The average tax burden was calculated from information from U.S. companies on income and taxes paid for companies they control in Europe, i.e. firms of which they earn least 50% of the shares. The average tax burden is defined as the ratio of paid taxes to profits, the latter being determined by U.S. accounting procedures. Changes in the valuation principles for determining profits are also reflected in this way in the average tax rates. The EU-15 average is calculated using GDP shares as weights.

1 See No‹hrba§ and Raab (1990).

80 Hans-Werner Sinn

Chart 3

The Growing Share of Taxes on the Factor Labour in the OECD1)

30 1965 1970 1975 1980 1985 1990 1995 France Turkey Germany United Kingdom Italy U.S.A. Japan OECD Source: OECD Revenue Statistics 1999, OECD National Accounts 1999, own calculations. 1) Taxes on labour income as a percentage of total tax revenue, weighted by share of GDP. Taxes on labour income consist of taxes on labour income, social insurance contributions for wage earners and salaried employees based on payroll, and municipal payroll tax. Data is lacking for Mexico, Iceland, South Korea, Poland, Czech Republic and Hungary. special areas. In nominal terms they tax MigrationinEurope incomeatthenormalcorporateincome Despite this trend we must not ignore tax rate, but they permit a very gener- theactualmobilityofthelabourforcein ous way of calculating lump sum profits Europe. Today the percentage of Ger- whicheffectivelyreduces thecorporate man residents born abroad is 8.9% of income tax rate to 7% (Netherlands). the total population. This is not much There is no doubt that capital is the less than the 9.8% of the United States, mostmobileofallproductionfactors.It a country of traditionally large immi- is more mobile than labour and of gration.1) course more mobile than land. For this Migration will increase with the reasonitisnotsurprisingthattaxeshave eastward enlargement of the EU. No shifted to other factors. The factor land fewer than 106 million Eastern Euro- is not lucrative enough because of in- peans are seeking entry into the EU, sufficient income mass. Accordingly, and the first wave of accession will more and more taxes have been placed include eight countries and about on the factor labour. 75 million people. The wage of these Chart 3 shows a clear time trend of people is currently between one fifth the percentage of wage tax on total tax and one tenth of that in WestGermany, revenue in the OECD countries, which compared to about half in Spain and despite the exceptions of Turkey and Portugal when they joined the EU. the U.K., is evident for most of the According to estimates by the Ifo Insti- OECD countries. Over the past fifty tute for Economic Research between years the share of wage taxes has risen three and four million people will from 45% to nearly 60%. The factor migrate to Western Europe over a labour is the victim of globalisation. period of 15 years.2) What comes on 1 OECD (2001). Annex 1. 2 See Sinn et al. (2001).

81 Hans-Werner Sinn

top of this is the immigration from mantling of the European socialwelfare other parts of the world. state is the likely outcome.1) The immigration from very poor This process will, of course, be countries to Western Europe could much slower than the competition touch off considerable competitive for capital. It took fourteen years for pressureinthelabour market.Aperson Germany to adopt the American tax- who decides to leave his home country cut cum base-broadening. The ward- to seek his fortune in the West will be ing-off competition among the welfare guided above all byeconomic criteria in states will be much slower. It will his choice of countries and will react to certainly stretch out over decades even the slightest differences. Even and can only be gauged in an historical though considerable income differen- perspective. ces are necessary to set off migration, An impression of the importance of the differential labour-force migration on the behav- migration be- iour of countries can be seen in the tween the Euro- U.S.example.InAmerica,labourforce pean countries is mobility has always been very high and nevertheless ex- at the same time the system of govern- tremely high. ment is decentrally organised. Under The theoretical these circumstances it was impossible ideal of perfect to establish a European-type welfare mobility is very state, and attempts that pointed in this close to being realised in this area. direction failed miserably. When New Under these circumstances, the YorkCity expanded its welfare benefits countries of Western Europe will be under Mayor John Lindsay at the end of forced to engage in a warding-off com- the 1960s as a means of combating pov- petition so as not to attract too many erty, it attracted the poor from all over people that the state would have to sup- America. The result was rapidly port. Immigrants in Germany are net mounting debt that led to near bank- recipients of government benefits dur- ruptcy in 1975, forcing a turnaround ing their first ten years of residence, in anti-poverty policies.2) according to a study by the Ifo Institute for Economic Research. Per capita and The Invisible Hand year they receive about EUR 2,300 and the Selection Principle more in terms of public goods and The major trends of systems competi- transfersthan they pay in taxes andfees. tion are obvious and can be observed It is foreseeable that this condition will empirically. Economists also know full not continue. The Western European well what individual countries must countries will scrutinise their social do in the competition to attract welfaresystemsandtrytoavoidbecom- investment. The recommendations of ing welfare magnets. A successive dis- the various councils of economic advi-

1 Network effects have little influence on this. To be sure, wherever a network already exists, the economic incentives for migration decisions are no longer so important. Then competition has already occurred. However, the expectation of future networks thatmayresultfromcurrentmigrationwillinduce statesallthemore tocutbacktheirwelfarebenefits.Exante,the competition is then all the stronger. See Thum (2000). 2 During the Lindsays first term of office, social welfare expenses rose from 12.5% to 23% of the budget (Glaeserand Kahn, 1999, p. 124; Shefter, 1985, p. 86).

82 Hans-Werner Sinn

sors and the economic research insti- ings of existing markets, we cannot tutes are quite unanimous in matters hopethatthereintroductionofthemar- of tax policies and regulations. This ket through the backdoor of systems is no wonder: economists are the competition will lead to sensible allo- managers of their countries. They cation results. It is more likely that the help their respective countries opti- failings that led the state to act will re- mise their collective policy decisions. appear on the higher level of competi- They help them survive in systems tion between states. competition. According to the Selection Princi- What is less clear is the result that ple,drawinganalogiesbetweencompe- systems competition produces on the tition in the private sphere and compe- whole and especially how this result tition between states is completely should be assessed. Can we trust this inadmissible because the states admin- competition as an organisational process? Is there an invisible hand, as there is for private competition, that regu- lates everything for the better from the viewpoint of the community of nations? Do the main theorems of welfare economics also hold for systems competition, or is pessimism called for? Are central government solutions needed to correct the market failures ister the exceptions in the competitive in systems competition? Should poli- allocation processes. Precisely because cies in a variety of areas be harmonised competition functions well in the pri- to reduce competition? How much vate sphere it must be feared that it will Brussels does Europe need? These are fail in the public sphere. thefascinatingquestionsthatthetheory of systems competition deals with. Three Examples It is certainly possible to construct of the Selection Principle models of systems competition whose To show how the Selection Principle assumptions in analogy to market com- works in reality, three examples will petition are adjusted to producing a be briefly presented, without looking functional competition among states.1) at the underlying, formal models.2) But it is not clear whether such models cancapturetheessenceofsystemscom- The Erosion of the Social Welfare State petition. Among the reasons for government re- The reason for doubt lies in what I distribution, the insurance motive is once termed the Selection Principle probably the most important. Behind (Sinn, 1997a, 1997b). This principle a veil of ignorance, wise constitutional maintains that states take over those fathers — or also median voters — have economic activities that the private agreed on the social welfare state to market is unable to carry out. Since cover the life and career risks of their the state acts as a stopgap, replacing children.Thosewhosuffer misfortunes lacking markets and correcting the fail- in life are net recipients of state resour-

1 See, for example, Sinn (1992), Richter (1994), Wellisch (1995) or Oates and Schwab (1988) and Oates (2001). 2 For the underlying models, see Sinn (2002), Chapters 3, 2 and 7, in this order.

83 Hans-Werner Sinn

ces, the more fortunate are net payers. is strictly positive. On balance with From an ex-ante perspective the ex- the scaling back of the social welfare pected utility of risk-averse citizens state, national welfare in the sense of increases. expectedutilityofthecitizensincreases In establishing the redistribution since the budget surplus can be used measures, attention must be paid of to the advantage of all. From the posi- course to the behaviour changes that tion of all countries, however, nothing they induce. Ex ante, as in all insurance can be gained by such actions since no contracts, the efforts to reduce the migrationtakesplacewhenallactinthis insured danger decrease, but, and this way. What happens is only that the re- is a good thing, the willingness to take distribution is reduced and the ex- more risks in the choice of occupation pected utility of the citizens declines. and other decisions in life is greater The result can also be understood than would otherwise be the case. byusingthetheoryofexternalities.The Moreover, ex post, the incentive is lac- social welfare state creates positive ex- ing of acquiring more income through ternal effects for other social welfare ones own efforts, which is, of course, states by means of the international a disadvantage. migraion that it induces. It drives away Assumed the case that a national re- the rich, increases the supply of factors distribution system is optimally de- offered by them in other countries and signed by having found the best possible in thisway lowers their factor payments mixtureofthesevariousadvantagesand abroad. And it attracts the poor, disadvantages. Would this redistribu- whereby their factor payments rise tion system survive in systems compe- elsewhere. In this way the income dis- tition or was it even brought into being tribution in other countries becomes by this competition? more even and the degree of goal per- The answer is surely negative since formance of social policy in these coun- the free migration of net payers and net tries rises. Since the positive external recipients of state benefits would in- effects are not taken into consideration duce precisely the effect that was de- innationalsocialpolicies,systemscom- scribed in the previous two sections. petitionbringsaboutanunderprovision Every state would have an incentive of social policy. to treat the net recipients a bit worse Theunderlyingcausefor thisflawin and the net payers a bit better that their systems competition can be seen in the neighbours do in order to ward off the Selection Principle since theprotection latter and attract the former and in so against inequality in lifetime income doing create a budget surplus. that the social welfare state offers can- From the position of the individual not be provided by private enterprise. country, given the behaviour of other Private insurance contracts presuppose countries, the utility effect for those that the signers are of age and can who are induced to migrate because only be concluded with adults. For of this marginal decision is a negligible, an adult, however, the dice of fate have second-order effect. However, the already been cast, the veil of ignorance budget effect, as a first-order effect, has been lifted.1) Redistribution con-

1 In theory it is conceivable that parents conclude such contracts for their children, but no civilised country gives parents the right to obligate their successful children to pay for the unsuccessful children of other people. Only contracts that involve a resource transfer from parents to children are allowed.

84 Hans-Werner Sinn

tracts do not come into being on a pri- suffice to pay for the infrastructure vate enterprise basis since the mobile made available to this factor. They net payers would not participate. Ad- would lose their fiscal character and verse selection prevents the private in- become pure benefit taxes, because surance market from coming into ex- this would mean foregoing redistribu- istence. tion and insurance protection. The migration processes that create Second, it is not even certain that a failure in the competition among so- the taxes on mobile capital generate cial welfare states can also be inter- enough revenue to pay for the infra- preted as adverse selection. The migra- structure. In systems competition, tionofthesuccessfulandtheunsuccess- countries behave like competing firms ful is a choice that takes place ex post, that demand marginal cost prices, or that is after the veil of ignorance has to be more precise, tax rates that re- already been lifted. Since the successful flect the mar- net payers do not participate, the social ginal congestion welfare state cannot survive. costs for a given A possible policy implication of this infrastructure. It lies in the harmonisation of redistrib- is not to be ex- ution rules, but this is not easily achiev- pected that these able between countries with differing tax rates will average incomes. What is better is a provide enough delayed integration of migrants in income to cover the national social system, as has been the costs of providing the infra- recommended by theAdvisory Council structure. to the German Ministry of Finance or The reason for this lies in the Selec- recently by the Ifo Institute.1) tion Principle. When states are designed in accordance with this princi- Infrastructure Goods ple, they offer those goods which be- and the Race to the Bottom cause of sufficiently strongly increasing It is often maintained that there is returns to scale in production and use no need to fear the erosive forces of cannot be offered by the private sector, systems competition. There is no race since private competition would be to the bottom since the net payers do ruinous and would not achieve equili- not orient themselves on the taxes that brium. For such goods, tax rates or pri- theypaybutonthepublicgoodsthatare ces as high as the marginal congestion placed at their disposal. There is espe- costs are not enough to finance the cially no need to fear a race to the infrastructure. A chronic deficit arises bottom in the competition to attract that must be covered by other means. mobile capital since companies are pre- The private market failure that led to pared to pay an appropriate price for state intervention has renewed prob- good infrastructure. This argument is lematic implications at the higher level true on the surface, but it is only half of competition between countries. the truth. When the immobile production First,itwouldbebadenoughfor the factors are sufficiently important this social welfare state if the taxes that are does not automatically mean that there paid on the factor capital would only is no equilibrium in systems competi-

1 Sinn et al. (2001) and Wissenschaftlicher Beirat beim Bundesministerium der Finanzen (2000).

85 Hans-Werner Sinn

tion. Also competition is not ineffi- that the infrastructure used by the cient. It is in the interest of the owners mobile factors is completely paid by of immobile factors, which are com- them. This could be achieved by an plementary to mobile factors, to co- extension of the EU subsidy bans to finance the infrastructure used by the include indirect assistance from infra- mobile factors. Moreover, the individ- structure gifts. Given that the EU is just ual state has the incentive of providing now considering new proposals for a the right quantity and quality of infra- harmonisation of company taxes, this structure. Nevertheless, the result is a timely issue. for the social welfare state is still worse than if only benefit taxes can Lemon Banks and Bank Regulation be levied. The owners of immobile fac- The third and last example to be con- tors, which include very many infirm, sidered deals with bank regulation.1) weak, or those The Asia crises, the U.S. Savings and who offer simple Loan crisis and various bank failures labour, receive have shown that regulation of the bank- no money from ing sector is an important task for the the rich capital state and that there are possibly prob- owners but sub- lems with a free regulatory competi- sidise these capi- tion. Not least as aresult of these crises, tal owners in the Bank for International Settlements systems compe- is currently improving its rules for bank tition. This is not a race to the bottom regulation (Basel II) to promote, on but in a certain sense a race below the this basis, a further harmonisation of bottom. national rules. The policy implications of this ob- The purchaser of a bank bond does servation are similar to those that can not receive a guaranteed redemption bederivedfromtheerosionofthesocial claim. Instead, the likelihood of welfare state. In addition, locational the agreed redemption depends on competition can be limited if cross- whether the bank has not gone bank- border profit flows are taxed according rupt before the repayment date, and to the residence principle instead of the amount of repayment in case of the source country principle. The bankruptcy depends on how much U.S. Internal Revenue Service with capital reserves the bank has, to service its world-wide income concept and their creditors even in a worst-case itsregulationsfor taxing passiveforeign scenario. Banks are not able to com- income has gone quite far in this pletely avoid bankruptcy because the direction. companies to whom the banks pass A harmonisation of corporate in- on the funds they received from the come tax in the European context does purchasers of bonds are also not im- not follow from this because such a step mune to bankruptcy. The expected would likely lead countries to conduct redemption value is the key quality fea- locational competition with infrastruc- tureofabankbond.Ifthetrueexpected turegoodswhichwouldleadtoanover- value cannot be determined by the supply of such goods. When there is banks creditors because the creditors harmonisation it must also be assured cannot effectively monitor the banks

1 For the formal model underlying the analysis of this section see Sinn (2001).

86 Hans-Werner Sinn

actions, the bank bond is a lemon good expected loan repayments from these whose quality is exposed to erosive projectswillbeexpressedinareduction forces similar to those that effect phys- of expected bank profits. The welfare ical lemon goods. loss that results from the lemon bonds In the case of asymmetric informa- will be borne entirely by the banks tion between a bank and its creditors themselves. there is the danger of excessively neg- It is in the interest of the banks to ligent bank behaviour. The bank may prevent the development of such a haveanincentivetoconductitsbusiness lemon equilibrium by means of collec- with excessively low capital reserves tively agreed or government ordered and to finance particularly risky enter- rules on capital reserves. Strict bank prises. In the choice between an ex- supervision,asiscarriedoutinWestern tended loan that has a high probability industrial countries, solves the alloca- of a modest return and one with a low tion problem. probability of a high return, it can be Unfortu- worthwhile to choose the second alter- nately, the Selec- native even if a smaller expected rate of tion Principle return is associated with it. The reason again indicates lies in what I once called the BLOOS dangers if bank rule which states that you cannot get supervision itself blood out of a stone.1) Since a bank can- is exposed to not lose more than its capital reserves, international the acceptance of a smaller chance of competition. Assuming that bank cus- success and thus a larger risk of bank- tomers are neither able to reliably ruptcy has the advantage that the ex- assess the risk situation of the individual pected redemption value that the bank bank nor the importance of national must give its own creditors is reduced. rules on bank reserves, the national The expected profit of the bank can regulatory agency has an incentive to be enlarged in a similar wayas the profit be generous in controlling the banks of a lemon supplier can be enlarged under its supervision if foreigners by a quality deterioration of the sold are among the holders of bank bonds. product. The loosening of the regulatory restric- If all banks in a market behave this tions behind the backs of the creditors way, then the buyers of bank bonds can leads to redistribution from these cred- concludefromobservingtheoccasional itors to the national banks, and the bank failure that they are buying lemon larger the percentage of foreigners bonds and they will demand appro- among the creditors, the larger the priate risk premia on top of the agreed national welfare gain that arises. Na- interest rate. Tothis extent they are not tional market failure translates into a cheated in the final analysis and to this competition of laxity of the regulatory extent banks as a whole do not succeed agencies and thus to a failure of systems in putting themselves in a better posi- competition. tion by increasing the risk of bank fail- Noted economists have attributed ure. On the contrary, because they the Asian crisis of 1997 and 1998 to choose excessively risky and unprofit- an excessively lax regulation of Asian able financing projects the lessening of banks, and there are many indications

1 See Sinn (1980, 1982).

87 Hans-Werner Sinn

that systems competition resulted in that some economists, enamoured by overly lax regulation. In this regard, their firm belief in competitive proc- the efforts of the Bank for International esses, engage in. Settlements to achieve a better de facto A counter-thesis to the pessimism harmonisation of bank regulation with that follows from the Selection Princi- the Basel II accord is a step in the right ple is that systems competition is desir- direction. able because it forces inefficient countries to become more efficient. This Concluding Remarks thesis follows the same logic as the view Similar examples could be added from that private competition eliminates in- environmental policy, health care or efficient companies or forces them to other areas. They would confirm that act efficiently.Indeed, much can be said because of the Selection Principle for this thesis under ideal market conditions.Inefficiently managed firms have high average costs and are forced to mimic efficiently managed firms with lower costs, if they do not want to perish. The main the more likely outcome is a failure theorems of welfare economics prob- rather than a smooth functioning of ably also apply,if the managers selected systems competition. by the market process are too stupid Theimplicationsfor thenecessityof to actively implement the conditions international agreements andharmoni- for a profit maximum, but clever sation measures including the develop- enough to mimic successful competi- ment of a new level of government in tors who by chance picked the right Europe are obvious and must be taken policies. seriously. Of course, we know all too The problem, however, is the aswell that market failure is not a suffi- sumption of ideal market conditions. cient reason for government interven- If such conditions are not present, it tion or, for that matter, that a failure of is not easy to talk about the efficiency the competition among the European promoting effects of competition. nation states is not a sufficient reason Consider the example of environmen- for Brussels to step in. The danger that tal pollution to clarify the point. With- the central authority will do an even out competition, a management with a poorer job than the market participants romantic, nature-loving orientation is too great.Weshould be careful, how- could survive but under competition ever,not to throwout the baby with the it has no chance. Businesses that max- bath water. The proof of failure in sys- imise their profits and minimise their tems competition is the necessary pre- operating costs will prevail, and these requisite for considering international are the environmental polluters. regulations in the first place. In this re- The Selection Principle states that spect the Selection Principle is impor- ideal market conditions tend to exist in tant for a new design of Europe and the private competition but not in compe- world. It destroys the wishful thinking tition between states, and this raises

88 Hans-Werner Sinn

doubts as to the efficiency of systems Despite all its weakness and problems, competition even if national govern- it must be seen as an instrument for the ments are too ignorant to actively pur- fulfilmentofcollectivetasksthatcannot sue a policy of national welfare maxi- be accomplished by the private market. misation. For a similar reason as in the It is not the result of an error of history case of private firms, competition will but its logical consequence. In systems force even the badly functioning gov- competition, however, its chances are ernments to mimic their successful no longer all too great. neighbours which managed to find bet- The historical selection of govern- ter policy mixes with regard to the ment tasks came about in part by com- mobile factors of production, but, as petitive processes. But this was not a explained, such policy mixes need systems competition forced by the in- not be better from an international ternational mobility of production fac- welfare perspective. In the above-men- tors, but the innovation and imitation tioned examples a maximum of nation competition described at the outset, state efficiency was assumed. The be- which among other things was guided haviour of individual countries served by the objective of economic, cultural thegoalofmaximisingnationalwelfare. andmilitarydominanceandwhichtook Despite, or better, because of the per- place within largely sealed borders. fect achievement of this goal, systems Such competition follows completely competition turnedouttobedefective. different laws than competition in- As correct as the thesis that systems duced by the mobility of production competition forces the nation state factors. Indeed, in the light of the to seek national efficiency is, it does Selection Principle it is conceivable, not follow from this that systems com- or even likely, that the new systems petition itself is efficient. competition will destroy the results The Selection Principle is in accord of the old if we do not succeed in dras- with the positive view of the state that tically limiting its scope. § stems from traditional public sector economics as represented by Scha‹ffle References (1880), Sax (1887), Wagner (1876), Altshuler, R., H. Grubert, and T. S. Wicksell (1901), Lindahl (1939), Newlon (1998). Has U.S. Investment Musgrave (1959), Timm (1961) and Abroad Become More Sensitive to Tax others. For this tradition the modern Rates? NBER Working Paper 6383. state is a necessary accompanying fea- Borchardt, K. (2001). Die Globalisierung ture of industrialisation and urbanisa- ist nicht unumkehrbar. In: Handelsblatt, tion touched off by the Industrial Rev- No. 112, June 13: 7. olution. It arose above all to correct the Glaeser, E. L., and M. E. Kahn (1999). deplorable conditions that were char- From JohnLindsayto Rudy Giuliani:The De- acteristicofthelatenineteenthcentury. cline of the Local Safety Net? In: Economic Cities choked in filth, the pitiable living Policy Review 5: 117—32. conditions of the proletariat, poverty Hirschman, A. O. (1970). Exit, Voice, and among the elderly, catastrophic hy- Loyalty: Responses to Decline in Firms, gienic conditions, and many other evils Organizations, and States. Harvard Univer- gave rise to a general need for govern- sity Press, Cambridge. ment intervention in the market proc- Lindahl, E. (1939). Studies in the Theory ess. The modern European state is not a of Money and Capital. George Allen & ruling instrument of feudal powers. Unwin Ltd., London.

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Musgrave, R. A. (1959). The Theory of — (1997b). Das Selektionsprinzip und der Public Finance. McGraw-Hill, New York. Systemwettbewerb. In: Oberhauser, A. No‹hrba§, K. H., and M. Raab (1990). (ed.). Fiskalfo‹deralismus in Europa. Duncker Quellensteuer und Kapitalmarkt. In: Finanz- & Humblot, Berlin: 9—60. archiv 48: 179—93. — (2001). Risk Taking, Limited Liability and Oates, W. E. (2001). Fiscal and Regulatory the Competition of Bank Regulators. In: Competition: Theory and Evidence. Paper CESifo Working Paper No. 603, Novem- presented at the annual conference of ber. the Verein fu‹r Socialpolitik in Magdeburg, — (2002). The New Systems Competition. September. Yrjo‹ Jahnsson Lectures. Basil Blackwell, Ox- Oates, W. E., and R. M. Schwab (1988). ford and Malden, Mass., forthcoming. Economic Competition among Juris- Sinn, H.-W., G. Flaig, S. Munz, and M. dictions: Efficiency Enhancing or Distortion Werding (2001). EU-Erweiterung und Inducing? In: Journal of Public Economics 35: Arbeitskra‹ftemigration: Wege zu einer 333—54. schrittweisen Anna‹herung der Arbeits- OECD (2001). Society at a Glance — OECD ma‹rkte. Ifo Beitra‹ge zur Wirtschafts- Social Indicators. forschung 2, ifo Institut fu‹r Wirtschafts- Richter, W. F. (1994). The Efficient Alloca- forschung, Munich. tion of Local Public Factors in Tiebouts Sinn, S. (1992). The Tamingof the Leviathan: Tradition. In: Regional Science and Urban Competition among Governments. In: Economics 24: 323—40. ConstitutionalPoliticalEconomy3:177—96. Sax, E. (1887). Grundlegung der theore- Thum, M. (2000). EU Enlargement, Fiscal tischen Staatswirtschaft. Ho‹lder, Vienna. Competition and Network Migration. Scha‹ffle, A. E. (1880). Die Grundsa‹tze der University of Munich, mimeo. Steuerpolitik und die schwebenden Finanz- Timm, H. (1961). Das Gesetz der wach- fragen Deutschlands und Oesterreichs. senden Staatsausgaben. In: Finanzarchiv Laupp, Tu‹bingen. 21: 201—47. Shefter, M. (1985). Political Crisis, Fiscal Wagner, A. (1876). Allgemeine oder theo- Crisis — The Collapse and Revival of retische Volkswirtschaftslehre: Erster Theil. New York City. Basic Books, New York. Grundlegung. Wintersche Buchhandlung, Sinn, H.-W. (1980). O‹ konomische Ent- Leipzig and Heidelberg. scheidungen bei Ungewi§heit. Mohr, Tu‹bin- Wellisch, D. (1995). Dezentrale Finanz- gen. Here cited according to the English politikbei hoherMobilita‹t.J.C.B.Mohr (Paul translation: Economic Decisions under Siebeck), Tu‹bingen. Uncertainty. North-Holland Publishing Wicksell, K. (1901). Lectures on Political Company, Amsterdam, New York and Economy. Vol. 1. 1967 reprint of 1934 Oxford 1983. edition, Augustus M. Kelley: New York. — (1982). Kinked Utility and the Demand for Wissenschaftlicher Beirat beim Human Wealth and Liability Insurance. In: Bundesministerium der Finanzen European Economic Review 17: 149—62. (2000). Freizu‹gigkeit und Soziale Siche- — (1997a). The Selection Principle and rung in Europa. BMF-Schriftenreihe 69, Market Failure in Systems Competition. Bonn. In: Journal of Public Economics 66: 247—74.

Gareth D. Myles Gareth D. Myles Professor, University of Exeter

Comments on

Hans-Werner Sinn,

The New Systems

Competition

1 Introduction Professor Sinn has provided a stimulating and provocative talk. It describes a scenarioinwhichthenewsystemscom- petition leads to a crisis for some of our most cherished public sector institutions. Perhaps to provide a rallying call to action, it promotes this outcome as inevitable. The purpose of this discussion is not to dispute the forces at work, but instead to review mechanisms through which they may be moderated or even beneficial. It should be recalled that these issues of systems competition are not new. The 1944 Bretton Woods Agree- ment can be seen as a milestone in providing a transnational agreement that, although liberal in some respects, prevented a race to the bottom through the use of capital controls. Keynes, the chief British negotiator commented Notmerelyasafeatureofthetransition but as a permanent arrangement, the plan accords every member government the explicit right to control all Gareth D. Myles

capital movements. What used to be level of interaction and hence not de- heresyisnowendorsedasorthodoxy.1) liver what is efficient. Then, as now,transnational institutions Two major consequences follow were seen as the natural solution to the from this: problem of externalities in inter-re- Firstly,tax competition will occur as gional competition. jurisdictions compete for the mobile factors of production. This is seen as 2Observations applying particularly to capital and and Consequences tobereflectedintheprocessofdecreas- To provide a basis for my discussion, ing capital tax rates that have recently I draw from Sinns paper a simplified been witnessed in several countries. statement of the main thesis and the Secondly, the movement of labor is consequences that follow from it. expected to overwhelm welfare systems as people engage in benefit shopping.Thisisespeciallyimportantfor the European Union with its enlargement to the East. Both these consequences can be summarized as having the nature of a race to the bottom as governments cut taxes and public good provision in order to compete. Such ideas have The central thesis is that competi- received much attention in areas of tion between economic systems (cap- the economic literature as diverse as italism versus democracy) has been environmental management and finan- replaced by competition between large cial regulation. At the heart of all of this trading blocs and between countries analysis is the general idea that the pol- within those trading blocs. This com- icy choices of countries impose nega- petition involves attracting mobile tive externalities upon others. Unless factors of production by inducements regulated, an advantage accrues to such as lower tax rates. The degree those who cut their standards and this of competition is enhanced by the pressurizes others to do likewise. Con- increased mobility of capital and labor, sequently,all will cut standards (degree both of which can now more easily of regulation, rate of tax, benefits paid move to exploit economic advantage. etc.) to the general detriment. This is For the European Union countries, this just a reflection of the usual conflict be- is especially true since the completion tween private and social benefits that of the Single Market. always arises in the presence of exter- Sinn notes that governments are nalities. designed to intervene to offset market The outcomes described in Sinns failurewithin countries. Consequently, paper are perfectly possible and may when the market failure arises in inter- well happen. However, this is by no actions between countries, there is no means certain and a range of policy op- natural authority to make the necessary tions is available to mitigate the conse- corrections. The unregulated compet- quences. After a brief review of some itive process may therefore fail at this salient data, the following sections will

1 Gardner (1980).

94 Gareth D. Myles

suggest reasons why some of the effects and this may well be greater than one. may be beneficial, describe theoretical If it is, with lower rates reducing the results that provide cause for hope, and incentive to avoid, revenue may rise discuss some policy proposals. as the tax rate falls. To provide some insight into this, 3BasicData chart 1 plots United Kingdom revenue This section provides some data to il- from capital taxes as a percentage of lustrate the extent to which taxes on GDP over the period from 1982 to capital have declined and the potential 2001. The trend line in the chart shows for labor mobility within an enlarged that there has been a general decline in European Union. these revenues over the period. So over thistwentyyear periodthehypothesisis 3.1 Capital Taxation supported and capital taxes decline Areviewofthestatutorytaxratesleaves both statutorily and effectively. nodoubt thattheyhavefallen steadilyin Itmightbeexpectedthatiftaxcom- a number of countries in the last few petition is driving down capital tax years. Care must be exercised though rates, the process would have acceler- before it is concluded that this indicates ated since the completion of the Single a reduction in the effective tax upon Market in December 1992. Totest this capital since the statutory burden idea, consider the data in chart 1 since and the actual burden can be quite 1993. It can be seen in the chart, and different. easily confirmed by plotting the data, There is no doubt that the revenue that the effective burden on capital has raised from capital taxes has been low actually risen since 1993 — the converse relative to the potential tax base. This is of what the tax competition argument probably due to the difficulty of defin- would suggest. ing liability in away that prevents wide- Thisdiscussionjustillustratesavery spread avoidance (and probably some standard observation: considering stat- evasion). What matters for the effect utory rates of tax never tells the full of a tax change is the elasticity of rev- story of tax incidence. What is really enue with respect to the statutory rate, relevant for economic analysis is the

Chart 1 U.K. Revenue from Taxes on Capital

% of GDP at market prices

0.30

0.25

0.20

0.15

0.10

0.05

0.00 1980 1982 1984 1986 1988 1990 19921994 1996 1998 2000 Taxes on capital Trend line Source: Economic Trend 2001 (National Statistics).

95 Gareth D. Myles

actual incidence and burden of the tax. Table 1 provides data on average A cursory glance at statutory rates may incomes (measured by GDP per capita) support the tax competition argument insomeexistingEuropeanUnionmem- but it requires a comprehensive analysis bers (top group), some of the potential of the actual burden to convincingly first-wave of Eastern European new prove the point. As the chart above sug- members (centre group) and some of gests, there may be some surprises the potential second-wave new mem- when the latter is undertaken. bers (bottom group). One point is strikingly clear from this table. Average 3.2 Potential Migration incomes in the existing member coun- Oneofthemostdisturbingclaimsofthe triesareseveralmagnitudes higher than paper is that migrants will overwhelm those of potential members. In fact the the welfare systems of the existing United Kingdom, which is fairly repre- European Union countries once the sentative of the European Union in this Union is extended to the East. As a first respect,hasaverageincomeseventimes step in establishing this argument, it has that of Turkey and fifteen times that of to be shown that sufficient incentives Romania. It is clear that these simple exist for such migration to take place. figures support the contention that mi- The standard representation of gration will be a very significant issue if migration in economics is that it will the European Union does extend to the be driven by a combination of pure eco- East. The financial incentives exist and nomic factors and an attachment to are substantial. Significant migration is homeland. These ties to homeland rule therefore a distinct possibility. out a situation of perfect mobility in which movements of labor occur in re- 4 Grounds for Optimism? sponsetoeventhesmallestofeconomic The previous section has detailed some advantages. Although it is difficult to facts that are in broad agreement with directly evaluate the value of these ties, the general hypothesis of the effects of so that a complete picture of potential systems competition. The consequen- migration cannot be obtained, at least ces, though, need not be as bad as sug- the size of the economic factors can be gested. Two reasons why are now de- detailed. scribed.

Table 1 GDP per Capita and Population 4.1 Tax Differentials

GDP per Capita Population One of the effects of the race to the GBP million bottom is that tax rates are reduced Austria 18,392 8.14 through tax competition and that tax Belgium 17,397 10.14 differentials will not be maintained France 16,596 58.68 Germany 18,212 82.13 in the long-term. This is especially true Spain 9,665 39.63 United Kingdom 14,676 58.65 when there is mobility and a single market. Czech Republic 3,530 10.28 Hungary 3,092 10.12 In addressing whether these claims Latvia 1,659 2.42 are correct, the United States makes Lithuania 1,741 3.69 Slovakia 2,536 5.38 an interesting case study. There is Turkey 2,166 64.48 clearly mobility of labor (though not Bulgaria 836 8.34 the income differentials identified be- Romania 932 22.47 tween European Union countries and Source: The Economist. potential members shown in table 1)

96 Gareth D. Myles

and a single market. Individual states increased again to 8.235% in 2000. are able to set their own income and Furthermore, the rates have been sus- sales taxes, and cities and counties tained even with the advent of Internet can add their local taxes on top of shoppingthateffectivelyallowstax-free the sales taxes. shopping in all locations (see Goolsbee, Table2 provides data on tax rates in 2000). ten U.S. states (actually the first ten in What conclusions can be drawn alphabetical order). These clearly illus- from this? Overall, this evidence seems trate substantial differences between difficult to dismiss easily. What it ap- the rates of both income taxes and sales pears to show is an outcome in which taxes.Ifasuitablemetricwereadopted, tax competition has not resulted in a these differences are likely to exceed race to the bottom but instead one it the differences observed across the which an equilibrium has been estab- European Union countries. In fact, lished with diversity in rates reflecting there are five states with a sales tax local preferences. One might even be of 0% (Alaska, Delaware, Montana, tempted to argue that this reflects the New Hampshire and Oregon), al- efficiency claimed by the Tiebout though the highest city tax was 7% hypothesis (see 5.2 below). If so, then in Wrangell, Alaska. The highest com- the damaging effects of tax competition bined sales tax rate was 11% in the city will only apply in Europe if there is of Arab in Cullman County, Alabama, something significantly different be- and the highest state tax was 7.25% in tween Europe and the United States. California. It is not immediately clear what this To these observations should be difference might be. One argument added the fact that, rather than declin- could be that factors are less mobile ing, the sales taxes have had a tendency in the U.S., though this does seem un- to rise. Bell (2001) notes that there likely. Applied to sales taxes, such an were 18 consecutive years of increase argument makes no sense since the in the average combined rate (state plus Internet makes cross-border shopping local) until an all-time high of 8.251% potentially available to all consumers was reached in 1998. The average com- which should have further reduced bined rate fell to 8.231% in 1999 but the differentials.

Table 2 U.S. State Income and Sales Taxes

State Income tax rates Income brackets1) Personal exemption State sales tax3) Low High Number Low High Single Married Child % number USD % Alabama 2.0 5.0 3 500 3,000 1,500 3,000 300 4 Alaska no state income tax none Arizona 2.87 5.04 5 10,000 150,000 2,100 4,200 2,300 5.6 Arkansas 1.0 7.0 6 2,999 25,900 20tc2)40tc2)20tc2) 5.125 California 1.0 9.3 6 5,454 35,792 72tc2) 142tc2) 227tc2) 7.25 Colorado 4.63 Same 1 flat rate none 2.9 Connecticut 3.0 4.5 2 10,000 10,000 12,000 24,000 0 6 Delaware 2.2 5.95 7 5,000 60,000 110tc2) 220tc2) 110tc2) none Florida no state income tax 6 Georgia 1.0 6.0 6 750 7,000 2,700 5,400 2,700 4 Source: www.bankrate.com. 1) Income bracket ranges generally are for single taxpayers. 2) tc = tax credit. 3) In some states, local sales taxes are levied on top of state rate.

97 Gareth D. Myles

4.2 Welfare Systems until reforms can be introduced that The paper under discussion noted that remove the long-term difficulties. mostnewimmigrantsarenetrecipients Hence, rather than immigration being of benefits for the first ten years of res- the end of the benefit system, it might idence. The question then, is whether actually be its savior. the benefit system will survive the possible influx. 5Theory For some time it has been acknowl- The practical observations of the pre- edged that one of the major difficulties vious section can be supported by some facing the welfare systems of Western theoretical observations. These are not countries is the increase in the depend- briefly described. ency ratio facing state pension schemes (see Miles, 1999). This is due to both 5.1 Optimal Capital Taxation increased longevity and the decrease Optimal tax theory attempts to deter- in the birth rate. It is predicted that mine the best tax structure according the relatively smaller working popula- to some given measure of economic tion will face increased difficulties in welfare. One of the most important supporting pension payments to the recent results in this area is that of retired. This trend is illustrated in Chamley (1986) and its extension in chart 2. Lucas (1990). Given this observation, the poten- In an infinite-horizon model with tial benefit of inward migration be- optimizing agents, Chamley shows comes clear. If the inward migrants that a zero rate of tax on capital will are working-age individuals then be the optimal policy in the long the dependency ratio will be reduced. run. It may initially be positive but will This may allow the continued function- then decline along the equilibrium ing of the existing pension schemes growth path. The tax burden trans-

Chart 2 Population Structure of the Western Europe

% of total population Forecast 45

0 1950 1950 1970 1980 1990 2000 20102020 2030 2040 2050 0 to 29 years 50 to 64 years 30 to 49 years 64+ years Source: United Nations; Miles (1999).

98 Gareth D. Myles

fers gradually to labor. If this does How important are these results characterize the optimal policy, then for rescuing the efficiency of the the reductions that have been seen new systems competition? Tiebouts may just be movement along the equi- hypothesis has been subject to consid- librium path to the long-run opti- erable criticism (see, for example, mum. If they are, then the decrease Bewley,1981)andhas provedadifficult in rate is to be approved rather than hypothesis toformalize.Whatis clear is criticized. that it relies on fairly extreme assump- Care, of course, must be exercised tions on mobility and the availability of in putting too much faith in a result of potential jurisdictions in order to gen- this kind. The economy in which it is erate the efficiency argument. How- derived is very stylized and requires in- ever, even if reality does not tertemporal optimization by the single conform to the required conditions consumer and the government. In addition, there is no natural way in which to interpret the long run, and even less to believe that we are currently converging to it.

5.2 The Tiebout Hypothesis The seminal contribution of Tiebout (1956) established the hypothesis that competition between regions (in their of the theory, this does not say that choice of taxes and government provi- the forces identified by Tiebout are sion) would lead to an efficient out- not at work in an imperfect world. come. In essence, by voting with their feet between competing jurisdictions 5.3 Inter-Regional Transfers individuals would simultaneously re- The fundamental problem of systems veal their preferences and join a juris- competition has already been identified diction that was optimal for them. This as one of externalities. The standard process leaves no scope for inefficien- response to solve such market failure cies to arise or for a race to the bottom is to institute a system of Pigouvian to take place. transfersbetweenregionsthatprecisely A particular version of the Tiebout offset the external effects. An active hypothesis can be found in Myers center, such as the EU or the U.S. fed- (1990) work on tax competition. If eral government, can undertake such labor is perfectly mobile, then it can transfers between member countries move to benefit from the smallest dif- or states in order to internalize the ferencesinregionalincomes.Whatever tax competition externalities. one region does is then to the advantage On the surface, these transfers of all consumers. Hence any inter- would seem to be unlikely to be imple- regional externality is eliminated. This mented since although socially desir- simple mechanism can allow efficient able they seem not to be individually taxes to be sustained even if regions rational. If this is the case, it would arecompeting.AlthoughMyersphrases therefore seem difficult to obtain con- the analysis in terms of labor mobility, sensus on their implementation. How- itclearlyalsoappliestoperfectlymobile ever, the argument in Hindriks and capital. Myles (2002) demonstrates that re-

99 Gareth D. Myles

gions may find it in their own interests consequences of tax competition. To to voluntarily provide such transfers. do this successfully, the center has to This finding is representative of the understand its role and to make its general class of observations that objectives clear. mutually beneficial (though individu- An alternative solution is the har- ally damaging behavior) can be sus- monization of taxes. This was a key tained in equilibrium when decisions policy of the European Union in the are taken in separate stages. 1980s (see Keen, 1993) which went Taken at a very literal level, it is in some way to lessening differentials the nature of the European Unions that in commodity taxes. However, it no regions pay to the center and receive longer seems to be actively pursued. transfers back from the center. The Harmonization has its problems in two need not balance, however, thus that it is perceived to lessen the degree of domestic control over taxation and the freedom to run independent tax policy. If it is to work though, these political difficulties may have to be put aside generating transfers between regions. inorder toachievethebenefitsofhigher This process can be interpreted as levels of taxation. having some of the features of a system If competition is across trading that can internalize the externalities of blocs, it becomes more difficult to tax competition. achieve a solution. The obvious solution is to introduce some transnational 6Policy body to oversee and coordinate policy The arguments so far have attempted to or else hope that a solution will limit the potential damage of the new emerge naturally. Sandler (1997) de- systemscompetitionbyappealingtothe scribes the many global problems U.S. situation, the potential benefits of that have been confronted and solved immigration and to theoretical results. by either formal agreement or through These can provide some hope that the voluntary cooperation. Not all such outcome may not be as bad as predicted agreements have been successful; the but they are not entirely compelling. recent decision of the U.S. and Aus- Attentionnowturnstopossiblepolicies tralia not to ratify the Kyoto agree- that can be implemented. ment shows some of the difficulties The basic requirement of policy is that can arise. to internalize the externalities wher- The problem of immigration and ever this is possible and to protect wel- welfare payments can be responded faresystemsagainstexcessivedemands. to in several ways, even accepting Tax externalities can be internalized by the principle of the free migration of the inter-regional transfers already dis- labor.Itis possibletorestrictsomeben- cussed. Within a trading bloc such as efits to only existing residents, or at the European Union these can be made least phase in entitlement so that there an explicit response to reduce the is no immediate major effect of immi-

100 Gareth D. Myles

gration. A more expensive, and longer appeal to the role of transnational term, option would be to discourage authorities to provide cover for the migration by raising average incomes inefficiencies that emerge between in the eastern countries. This is the role governments. § that regional development has already played within the European Union. References The difficulty facing this policy is that Bankrate.com (2001). State taxes. the income differentials it is confront- www.bankrate.com/nsc/itax. ing are so much larger than anything Bell, K. (2001). Sales tax rates remain low challenged in the past. For example, nationwide, but some residents still pay a even if income in the U.K. were to re- pretty penny. www.bankrate.com/nsc/itax/ main constant, it would take Latvia state/20010503a.asp. 23 years at 10% per annum growth Bewley, T.F.(1981). A critique of Tiebouts to catch up. theory of local public expenditure. In: Econ- Mentionhasalreadybeenmadesev- ometrica, 49: 713—740. eral times of the role of inter-regional Chamley, C. P.(1986). Optimal taxation of transfers. The European Union could capital income in general equilibrium with engage explicitly in such transfers in infinite lives.In: Econometrica, 54: 607—622. order to fund welfare payments in Gardner, R. (1980). Sterling-Dollar Diplo- the lower income members. Effec- macy in Current Perspective. New York, tively, this would involve paying the Columbia University Press. poor to stay at home rather then mi- Goolsbee, A. (2000). In a world without grate and consume benefit payments borders: the impact of taxes on Internet elsewhere. The providers of the funds commerce. In: Quarterly Journal of Eco- would benefit since its removes from nomics, 115: 561—576. them the burden of immigration. Hindriks, J., and Myles, G. D. (2002). The recipients would also benefit as Strategic inter-regional transfers. In: Journal they would not lose their working of Public Economic Theory, forthcoming. age population and therefore retain a Keen, M. (1993). The welfare economics of basis for development. tax co-ordination in the European Commu- nity: a survey. In: Fiscal Studies, 14: 15—36. 7Conclusions Lucas, R. E. (1990). Supply-side economics: The challenges presented by the new an analytical review. In: Oxford Economic systems competition are daunting Papers, 42: 293—316. and the worst-case scenario brings sig- Miles, D. (1999). Modelling the impact of nificant consequences. However, the demographic change upon the economy. outcomes do not seem to be entirely In: Economic Journal, 109: 1—36. inevitable. This discussion has touched Myers, G., (1990). Optimality, free mobility, upon a range of reasons, both practical and the regional authority in a federation. In: and theoretical, why this is so. There is Journal of Public Economics, 43: 107—121. also a range of countervailing policies Sandler, T. (1997). Global Challenges, that can be introduced. Some of Cambridge University Press, Cambridge. these are protectionist, but protection- Tiebout, C. M. (1956). A pure theory of ist of social security systems and bene- local expenditure. In: Journal of Political fits rather than industries. Others Economy, 64: 416—424.

101 Gertrude Tumpel-Gugerell, Tagungsvorsitz/Chair Dirk Bruneel Reinhard Ortner Albrecht Schmidt Axel A. Weber Podiumsdiskussion Finanzpolitik:

Spielraum fu‹r regionale Finanzinstitutionen?

Financial Policy Panel:

The Scope for Regional Financial Institutions Gertrude Tumpel-Gugerell Vice Governor, Oesterreichische Nationalbank

Introductory Remarks

The role of regional financial institu- overall economies of scale in bank- tions was until very recently clearly ing is rather limited, we cannot exclude limited by national borders and narrow a bigger role of those economies of legal constraints. Fifteen years ago the scale in the future, in particular in questions we will discuss today would specialized areas of the banking have been posed differently. This has industry. Restructuring of banking indeed changed quite dramatically. activities as a consequence of financial The successful establishment of market integration might take place EMU and the introduction of the euro at the cost of regional financial institutions and diminish their role and scope of business. On the other hand we know from the modern theory of banking and financial intermediation that financial created a new situation for the Euro- institutions often fulfill functions that peanandinternationalfinancialsystem. financial and capital markets cannot Its indirect effects on the structure of provide by themselves. Much of these European financial markets and functions are related to problems of financial institutions, in particular asymmetric information. This is a the European banking industry, are recurring topic in current academic far reaching, but have materialized to research on banking and financial inter- a limited extent only today. There is mediation. Allen and Gale in their well little doubt that the role of regional known book Comparing Financial financial institutions is and will be Systems write for instance (some- strongly affected by this process over times financial) markets are not viable the coming years. because of asymmetric information, A trend most clearly visible is a moral hazard, or something else. strong tendency for mergers and the Financial Institutions can overcome creation of bigger units. In Austria these problems by offering made-to- the five biggest banking groups of measure risk sharing contracts. today are the result mergers at the (p. 17). In this context client specific beginning of the 1990s. In the bank- relations play an important role. ing industry activities such as asset The very business of financial inter- management and investment banking mediation therefore partially relies have grown more important at the on functions that are to a certain extent cost of the more traditional banking dependent on regional or even local business. To remain competitive at knowledge. There might thus exist the international capital markets banks limits to centralization and creating tend to merge and form bigger units. bigger units. One should not under- Though the empirical evidence for estimate the essential asset of local

104 Gertrude Tumpel-Gugerell

knowledge held by regional institu- mind immediately. Let me just name tions which is of utmost importance a few of them: in the business of financial intermedia- — Do only large financial conglomer- tion. Those assets might be devalued or ates have a viable future or can re- get lost in the course of the creation of gional institutions survive? units beyond a certain size. — Is there an optimal degree of con- I think it is necessary to enter into centration? a deeper discussion of these issues to — What is the role of financial and get a clear idea of future developments capital markets in this context? and to assess the role of regional finan- — Should policy interfere to avoid cial institutions. A couple of questions monopolization or should it pro- to be addressed in this context come to motetheconcentrationprocess? §

105 Dirk Bruneel Member of the Executive Committee of Dexia

The International Strategy of Dexia

Introduction was formed as a combination of Dexia belongs to the restricted group Dexia Bank, known until May 2000 of European credit institutions with a as Cre«dit Communal de Belgique market capitalisation in excess of and Cre«dit Local de France, mean- EUR 21.3 billion (as of 30 April while transformed into Dexia Cre«dit 2002) and is now 19th of the 25 largest Local. publicly-quoted banking institutions Established in 1860 as a public in Europe and the 11th largest in the credit institution in order to finance euro area. In the Euronext 100 index the investments of the Belgian local Dexia ranks as number 24 (as of 22 May authorities, Cre«dit Communal devel- 2002). oped as the second largest Belgian The data given in table 1 will allow bank, offering a full financial service you to locate the Dexia Group in the to private individuals, self employed European financial landscape. people and small companies next to Few European banks have under- its initial tasks. gone such a change during the last This strategic choice was an answer few years as Dexia Bank. The creation tothechallengesthebankingsectorwas of Dexia must be seen within the confronted with and allowed the for- general and worldwide tendency tomer Cre«dit Communal to take control wards larger entities in the financial of its own future, since the original sector since the beginning of the shareholders, being the Belgian munic- 1990s. At the end of 1996 Dexia ipalities and provinces, could not con- Table 1 The Dexia Group in the European Financial Landscape Principal balance-sheet aggregates

2001 Evolution 2001/ 2002 EUR million annual change in % Total assets 351,355 +36.3 Customer deposits 84,007 +60.5 Debt securities 140,861 + 4.8 Customer loans 156,379 +16.4

Ratios

2000 2001 % Return on equity 17.7 18.7 Tier 1 ratio 9.3 9.3 Capital adequacy ratio 9.8 11.5 Cost/income ratio 55.1 59.5

Ratings (long term)

Dexia FSA Dexia Municipal Agency Moodys Aa2 Aaa Aaa Standard & Poors AA AAA AAA Fitch AA+ AAA AAA Source: Dexia.

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tinue to provide the necessary financial institutions and pure local or regional means for its further expansion. players. It is difficult to say how much Currently, the Dexia Group, em- concentration is needed or, in other ploying some 25,000 people, has or- words, there is not one optimal size ganised its activities around four busi- for a bank. Indeed, banking consists of ness lines: a lot of activities, products and services — public/project finance and credit and most of them certainly require a enhancement certain minimum size, but mostly a — retail financial services different one and it is difficult to say — investment management services which is the optimal size. A lot has — capital markets and treasury activ- to do with the degree of specialisation ities and the choice of a targeted customer For each of these four business lines base. a specific strategy has been worked out, that I will describe briefly later on. The main shareholders with more than 5% of the capital are at present:

Arcofin 15.34% Holding Communal 15.04% Groupe CDC 6.99% SMAP (Insurance) 5.17% 42.54%

In many regards Dexia differs from Many people were convinced its European sector companions, while thatthedisappearanceof theprotection it was playing a pioneering role in the from the national currencies required European integration and concentra- to look for a larger scale, since a critical tion trend. size is necessary to face the results of Let us illustratethis by commenting integrated, more transparent and com- following three items: petitive European financial markets. — Dexia as an answer to the creation This was also the basic reason for the of Economic and Monetary Union alliance with Cre«dit Local in 1996 (EMU) and the euro but also for the acquisition of Artesia — Dexia as one of the few cross- Banking Corporation in March 2001, border mergers in the euro area securing Dexias leading position in and as a truly European bank the Belgian market. — Dexias low risk profile as a guar- But Dexia was also fully aware that antee for stable revenue streams afinancialinstitutioncouldntbeevery- thing to everyone at the same time. 1 Dexia as a Clear Answer Clear choices had to be made. Dexia to the Creation haschosenfor alimited numberofbusi- of EMU and Euro nesslines,butineachoftheselinesafull There is more than one answer or valid service and product range is provided strategy in response to the changing and mostlyat a European level or some- environment of the financial world times even broader. Furthermore spe- and the challenges of the rapid develop- cial attention has been paid in order to ments in the information technology. have activities developed in each busi- Next to consolidation and large-scale ness line that could possibly support or entitiesthereiscertainlyroomforsmall reinforce the products and services in

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other business lines. For example the tisation structuring are well posi- business line capital markets concen- tioned to benefit from these ten- trates on those financial products and dencies. structures that can support or be used — Derivatives: For the year 2001 as a by the other business lines. whole, the aggregate value of turn- But in the same logic, Dexia has no over infinancialderivativeproducts ambitions in a lot of activities, such as rose by 55% to USD 594 trillion, investment banking and only small am- according to BIS-data. This was by bitions in corporate finance. far the largest yearly increase in This European dimension of our activity since 1993 (the year the activities is in linewith the globalisation BIS began to compute value-based ofthefinancialmarkets.Letusillustrate statistics for financial contracts). this globalisation by three examples: This upsurge reflected the nervous state of financial markets during much of the year, but also the con- tinuingglobalisation.Businessinin- terest rate contracts grew the most rapidly (by 60%) to USD 543 trillion, with money market instruments driving the expansion (rising by 71% to USD 475 trillion). Money market business was fuelled — The broader and deeper euro mar- by monetary easing as well as by ket allowed also other issuers than broad changes in risk management central governments and banks to practices. Overall activity in equity come to the capital markets at at- index contracts expanded by 10% tractive conditions. According to to USD 12.8 trillion. figures published by the European — ThecreationofEuronext(stockex- Central Bank (ECB), the issuance change of Paris, Amsterdam, Brus- activity by non-monetary financial sels, and Lisbon) is a first step in a corporations (including thespecial- European consolidation of stock purpose vehicles for the financing exchanges that until now was hin- of specific assets) was very strong dered by differing legislation, reg- in 2001. Their outstanding euro- ulations, clearing and settlement denominated debt securities in- systems. Such larger scale Euro- creased much more (+34.5%) pean stock exchanges are a natural than for the banks (+6.8%). In result of the integration process the same way, the growth of the with many advantages to most par- central government issuance was ticipants and they do not exclude rather low (+5.2%) while the local or regional exchanges for issuance of other authorities was smaller or mid caps. high (+28.9%). This has probably The efforts of Euroclears ap- to do with the pan-European proach, involving a process of hor- budget restrictions and a growing izontal integration of the clearing delegation of competences from and settlement through partner- central governments. It means that shipswith other clearers, decreased financial institutions that are speci- the obstacles to a European-wide alised in public finance and securi- exchange (cf. the already estab-

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lished links with Euronext and 3 Dexias Low Risk Profile Nasdaq Europe). as a Guarantee for aStableRevenueFlow 2 Dexia as One of the Few It is important to notice the continuous Cross-Border Mergers care that Dexia devoted to secure a in the Euro Area steadygrowing revenueflowbyactively The existence of different national monitoring a low and manageable risk legal, regulatory and fiscal structures profile. and the reluctance of the national Three of our core business lines, authorities have made cross-border namely public finance, private bank- mergers less straightforward until ing/asset management and retail, have now. But for the Dexia project these basically a low risk profile. Public fi- differences were not insurmountable, nance credits are in general of out- thanks to a practical and decentralised standing credit organisationofthegroupandpragmatic quality (peren- solutions to enter the markets in the nial nature of lo- different core activities in which Dexia cal authorities); proved its experience and competence. whereas the rate Initially Dexia was a French and of credit defaults Belgian financial institution, also in retail banking present in Luxembourg through its is very low be- subsidiaryDexiaBanqueInternationale cause of the kind ‘a Luxembourg (BIL) that is specialised of credits (mortgage loans) or the strict in private banking, asset management internal credit scoring systems. Private and fund services. In 1999 the bina- banking/asset management for the tional holding structure was replaced account of private and institutional by one single Dexia holding. Now a clients is fee business, with only very truly European character dominates exceptional indemnifications, thanks the management structure of the to the strict description of clients different core activities. risk profile and a meticulous invest- This European character of the ment process. The activities in Finan- Dexia Group is a key factor in its suc- cial Markets are developed and moni- cessful acquisition policy. The reasons tored in such a way that the low risk for the rapid external expansion of profile of the bank is maintained. This Dexia are twofold: is reflected in the excellent ratings — to tap a bigger growth potential for Dexia and its operational entities re- each of the four business lines. The ceived from the international rating acquisitions have been in line with agencies. It is also reflected in the the strategy and activities of the low cost of risk amounting only to business lines; 0.14% (= write-downs and allowances — to increase our market capitalisa- for loan losses and off-balance sheet tion in order to remain attractive items over gross outstanding customer for important international institu- loans and off-balance sheet financing tional investors, which should se- commitments). Although there was a cure the financing capacity for fur- certain increase of this ratio against ther growth in the future. 2000, due to the general economic downturn and decline in asset quality, it is still a very low ratio that compares

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very well with respect to the sector as The general aim is to be a world a whole. leader in financial services to the public Furthermore, Dexia is expanding sector. its activities with particular attention In the European Union Dexia has a to the equilibrium of the intermedia- market share of 17%. Dexia wants to tion revenues resulting from balance consolidate this position by sheet operations and fee income from — diversifying its offer of financial off balance operations. In this way, fee- services in these countries where business revenues have supplemented it is well established since long; interest revenues from traditional pub- — looking for equilibrium between licfinanceoperationsinmanyEuropean profitability and market share in countries from securitisations, mainly the other countries. inFranceandGermany,andfromcredit Dexia hopes to acquire in each EU enhancements in the United States and country a market share of minimum from asset management. 15%. These relatively stable revenue The acquisition of Financial Secur- flows from well-diversified activities ity Assurance (FSA) in the U.S. in with a low risk profile are the basis March 2000 for EUR 2.7 billion of the regularly growing results of secures Dexia a leading position in the group. On the other hand Dexia this field since always followed a strict cost manage- — it opens the U.S. market for ment that allowed achieving a cost to financial services to local author- income ratio that is among the lowest ities; in Europe. — itprovides Dexiawith know-howin With an average yearly growth of the field of credit enhancement; net profits per share of 13.6% from — it increases Dexias potential in the 1996 to 2001, Dexia not only qualifies area of securitisation (asset among the best performing European backed securities); banks,butitalsoshowedalowvolatility — it opens new perspectives for new of its results. This good track record products and services to be offered comforted investors and it was the basis to the European local authorities. for successful capital raisings duringthe Apart from the acquisition of FSA, last few years. concrete recent actions and steps in public finance have been: 4 Presentation — February 2000: a 60% participa- of the Business Lines tion in Crediop, the Italian banker Let us now briefly describe the strat- of the local authorities (in Decem- egy that was worked out for each busi- ber 2001 brought to 70%). The ness line. remaining capital is placed with three regional Italian banks (Banca Strategy in Public Finance Popolare), namely Milano, Verona Public finance must be understood in a and Emilia-Romagna. very broad sense, not only financing of — April2000:togetherwithKommu- public authorities but also encompass- nalkredit Austria a participation of ing structured finance (projects, infra- 30% was taken in Prva« Komuna«lna structure), credit enhancement and Banka (PKB), a bank specialised financial services tosocial or non-profit in financing local authorities in organisations and mid corporates. Slovakia.

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— July 2000: merger of Dexia business lines in the Dexia Group France, Dexia CLF and Dexia allowing a complete range of prod- Project & Public Finance Inter- ucts and services; national Bank into Dexia Credit — the increasing outsourcing of the Local in order to strengthen the delivery and management of public competitive position in the French projects to the private sector; and international market for public — the growth of the securitisation finance. market in Europe (joint offers of — November 2000: replacement of a FSA and Dexia). participation in Spanish Banco de As of 31 December 2001, the total Credito Local (40%) by a participa- long-term credit outstanding of this tionof60%inDexiaSabadellBanco business line amounted to EUR 150bil- Local (a common subsidiary of lion, a growth of 10% over a year. Dexia and Banco Sabadell that is There was also specialised in public finance). a very satisfac- — January 2001: the participation in tory increase in Kommunalkredit Austria is in- the amount of increased from 26.7% to 49%. come from com- — January 2001: the participation missioninthead- in the Israelian Otzar Hashilton visory or under- Hamekomi (OSM) is increased to writingbusiness, 41%.Thisbankspecialisedinpublic which amounted finance has a market share of 12%. to EUR 25.6 million for the year. — March 2001: acquisition of Artesia At present Dexias ambitions in the Banking Corporation that, in addi- area of public finance in EasternEurope tion to its important retail oriented are very limited. The demand for business lines,isarecognised player public finance activities from the local in the Belgian non-profit sector authorities in these countries is not yet (hospitals, schools, associations, developed to the same extent as in etc.). Western Europe. Furthermore, Dexia — October 2001: buyout of 75% of has a certain, but in general very small Global Structured Finance (GSF) presence in those regions. But most from PricewaterhouseCoopers activities in public finance just require LLP. GSF is active in the area of a certain minimum market share that is advice and engineering for struc- well above our present reach. tured finance and completes the Dexia Groups offer of products Retail Financial Services and services in this sector. With the acquisition of Artesia This overview clearly shows that BC/BACOB in July 2001 (announced the Dexia Group is well positioned in March 2001), Dexia ranks among to benefit from the top three providers of retail finan- — a truly European presence in public cial services in Belgium. Bank and finance; insurance activities have been consid- — a tendency to decentralise compe- erably enlarged (900.000 new clients). tences to regions and local author- Dexia hopes to improve the econom- ities; ics of its retail business through the — the implementation of synergies integrationofthe543BACOBbranches between the various entities and in its network of 930 branches,

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grouped in 159 hub and spoke Investment Management Services clusters. In this business, Dexia provides a full As for Dexia Banque Internationale range of products and services to a ‘a Luxembourg, this bank has a lead- broadspectrum of clients, including in- ing position in the Grand Duchy of stitutional investors, fund promoters, Luxembourg through 44 retail banking high net worth individuals, etc. Dexia branches. A participation of 20% was is active in four main lines of activities taken in the French retail bank Cre«dit chiefly in Europe: du Nord in September 1999. All these — private banking brick networks are supported by a — asset management click offer that provides direct access — fund administration to a comprehensive range of services — equity-related activities delivered through centrally-oriented These businesses are set to grow in IT platforms and call centres. the future as the need for financial asset Another strategic step was the cre- management products and expertise is ation in January 2001 of Dexia Insur- bound to increase due to the changes in ance & Pensions Services, that provides the demographic structure in Europe global solutions for problems related to and the foreseeable future of pension setting up and funding local and inter- schemes. national pension plans. It assists com- The development of these activ- panies in selecting, introducing and ities in the last years and the various managing appropriate staff pension acquisitions made (Artesia BC, vehicles. Kempen & Co, Labouchere, Bancoval, Totalcustomer deposits and invest- Financie‘re Opale, Linde Partners, ment products increased with 34.7% Bikuben Girobank International S.A., in 2001 to amount to EUR 79.7 bil- transformed into Dexia Nordic lion at year-end. Total customer loans Private Bank S.A.) have positioned increased with 45.5% and reached Dexia as one of the important players EUR 20.7 billion at the end of 2001. in this field. This was due to the broader consolida- Private banking is undergoing a tion since this growth at constant scope major shift in European countries was respectively 0.7% and 8.1%. and it is Dexias ambition to develop For thefutureonemightexpectthat its franchise in other European coun- the Dexia Group would expand this tries, more particularly in the neigh- business line in other European coun- bouring countries: France and the tries, using appropriate distribution Benelux, which is the Groups home channels. base. Through the acquisition of Dexia is convinced that the retail Artesia BC and Kempen & Co, Dexia bank of tomorrow will function as a has now a recognised presence in navigator to accompany the client in equity-related banking services. his analysis and choice among an exten- The asset management services to a sive and complex European offer of broad range of customers are con- financial products and services. Finan- ducted under one structure, Dexia cialexpertisewillallowDexiato model Asset Management that resulted from financial products and services to the the merger on 31 January 2002 of specific requirements of its customers Dexiam and Cordius Asset Manage- and to use the most appreciated distri- ment. (Assets under management bution channels. amounted to EUR 82.8 billion at the

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end of 2001). This united structure al- approached so as to comply fully with lows the harmonisation of the manage- the Groupspolicy of maintaining a low ment processes, a rationalisation of risk profile. the product range and a specialisation in the seven management centres, the Capital Markets principal ones being Paris, Brussels and and Treasury Activities Luxembourg. Dexias investment fund Under this heading Dexia conducts a administration business consists of number of activities either relating custody services, central administra- to the central treasury functions of tionservicesandtransferagent services the Group and/or giving the necessary and these are provided through Dexia support to the first three business lines Fund Services (DFS) and First Euro- so as to supply the most efficient serv- pean Transfer Agent (FETA) and avail- icestotheir respectiveclients.Theaims able in Dublin, Paris, Brussels, Milan, of this business line are Madrid, Singapore and the Cayman — to secure the long-term and the Islands. short-term funding of the Group DFS provided in 2001 services to and to manage its liquidity; 1,067 investment funds or compart- — to provide financial expertise and ments, anincrease of 13% over the pre- added-value products and services vious year. The total outstanding to the Groups first three business amount in these funds reached EUR lines; 92.2 billion. FETA saw a 15% increase — to be instrumental in the Groups in its activity volume from EUR assets and liabilities management 185.8 billion to EUR 213.8 billion. process; Dexia thinks it can preserve a com- — to contribute to the net income of petitive advantage in this challenging, the Group as a profit centre. active and growing market. Despite These functions are conducted in a difficult environment for the secur- accordance with the Groups risk man- ities industry in 2001 Dexia has ob- agement policy: maintaining a low risk served further growth of 28.6% in profile and ensuring that the revenue net commissions and other income streams provide stable cash flow. in this total business line. Overall, 2001 was a good year for Under the Dexia Securities banner the Group in these activities, despite different operations have been volatileanddifficult marketconditions. grouped: It generated a total revenue stream of — equity sales and trading EUR 636 million, despite the exposure — equity research (expertise in some to market risks being kept at a very low pan-European sectors) level. — derivatives (options market of Euronext) Some Final Remarks — corporate finance (most of the Keeping the confidence of private and clients are listed small and mid caps institutional investors and the financial in the Netherlands) markets in general is the big challenge This new development within the for Dexia in the years to come. Investment Management Services sec- With regard to transparency to the tor is aimed at increasing the level of market, Dexia has stated its medium- services to the Groups clientele, both term objectives on three financial key institutional and individual, and is indicators:

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— reduction of the cost/income ratio the mapped out strategy and are still below 50% justified from a value based manage- — achieving a stable level of return on ment point of view. equity in the region of 20% per ItprovesthatDexiawantstoremain year well focussed and loyal to its chosen — earnings per share: corporate tar- strategy.For thesamereason,theDexia get of EUR 1.95 to EUR 2.00 in Group, after a review of the global ex- 2005 posures to the corporate sector, nar- Therefore Dexia has developed a rowed its target customer segments. value based management method, Dexia attaches great importance to which is used to adjust the targets the liquidity and market perception of and measure the performance of the its share. That is why now, more than activities in the Group and to allocate ever, Dexia intends to be at the cutting the equity capital. edge of international corporate gover- The rapid external growth through nance and sustainable development, acquisitions during the last few years thereby guaranteeing investors top- also necessitates now to examine quality monitoring of its activities whether all parts and activities of the and complete transparency in its acquired companies are still in line with reporting. §

114 Reinhard Ortner Chief Financial Officer, Erste Bank der oesterreichischen Sparkassen AG

Erste Bank Group in Central Europe — The Background of an Austrian Success Story

1 The Political or the telecommunications sector. and Economic Conditions Central Europe has unmistakably 1.1 Klondike in Europe? turned into a magnet for booming sec- Five years ago, a bank pursuing a strat- tors of the economy. Numerically, this egy of building up retail banking in trend can be seen by studying exports Central Europe was regarded by many and/or direct investments. Such ex- competitors with a mixture of pity and ports/investments, coming from en- scorn. However, times have changed terprises operating out of the EU coun- radically: nowadays, it is almost a re- tries and directed into the Central quirement of good form within the European states, have soared during banking sector to have a foothold in the past few years. the Central and Eastern European On the other hand, the exports of countries, or to be at least on the point the Eastern European EU candidate of acquiring such a foothold. The igno- countries have increased five-fold since rance still prevailing only a few years 1990, attaining EUR 92 billion. These ago with regard to the economic, po- two figures, even if taken alone, dem- litical and cultural situation in the onstrate very clearly how much the Czech Republic, Slovakia, Hungary, integration of the economies of the Croatia and Slovenia has given way EU and its Central European neigh- to what almost amounts to a kind of bours has progressed since the gold rush euphoria. This applies break-down of the totalitarian regimes. not only to the banking sector, but Not least so because, at present, the may be observed equally within the Central and Eastern European coun- automobile industry (e.g. Skoda or tries constitute the only real growth Audi), the beverage industry (Ricard market in Europe, perhaps even across Pernod and South African Breweries) the globe, which, furthermore, lies

Chart 1 Development of Austrian Direct Investments in the Years from 1990 to 1999 EUR billion

0 1990 1991 1992 1993 1994 1995 19961997 1998 1999

Accession countries Czech Republic Hungary Slovakia Source: OeNB, most recent figures available.

115 Reinhard Ortner

right at the front door of the European Eastern Europe are often young busi- Union. The growth potential inherent ness professionals who have gathered in these countries can be deduced from experience abroad and are unfettered a comparison of the situation in Spain, by the political problems of the past Portugal or Greece before and a few provides additional momentum to a yearsafter theiraccessiontotheUnion: sustainable favourable development. not only the gross national product, but also prosperity in general, the invest- 1.2 Enlargement of the EU ment activity in those countries and From the point of view of Erste Bank, exports have markedly increased or theenlargementoftheEuropeanUnion improved. With regard to the most is more than a contribution to the important economic indicators, such political stability of the region. It as the rate of inflation or the interest would of course have far-reaching economic consequences — mostly of an advantageous nature. For example: the integration of the economies of the candidate countries and the EU, which has been re- rate, a convergence leading to stability ferred to above, is already more intense within the region was noticeable even at this time than the economic integra- before accession. tion among the candidate countries Of course, the region with its ap- themselves, and it has extremely fa- proximately 40 million inhabitants is vourableeffects.Numerousintegration not the proverbial land of milk and measures have already been taken in honey.Some areas of the laware in need the areas of industry and financial serv- of reform, the infrastructure only ices — though always supposing a quick partly satisfies Western standards and accessiontotheEU.Iftheaccessionfails the willingness to give service in the to take place or is materially deferred, tertiary sector has not kept pace with there will, without any doubt, be neg- recent development and is still more or ative effects for the economies of the less at the level maintained throughout candidate countries and thus for the Communist times. However, on the dynamics of one of the most important whole, the people of all of the countries economic regions in the neighbour- within the region show great readiness hood of Austria. to quickly implement economic and However, from the viewpoint of political reforms, and, observing Erste Bank and judging from our expe- how swiftly and professionally privati- rience, the development of a successful sations are carried out and how fast regional bank is not seriously hindered leaps in technology are realized, it ap- by political frontiers. It is obvious that pearssafetoassumethattheimplemen- synergies cannot be exploited as fully tation of the necessary reforms over the across political frontiers as they can nextfewyearswillnot present any seri- be within a unified economic area. ous problems. Moreover, the fact that But this does not mean that political the new policymakers in Central and decisions are an obstacle to expansion.

116 Reinhard Ortner

2 Success Factors banking is carried on have evolved over and Trends in European the past few years: Scandinavia, the Retail Banking British Islands and Ireland. The Iberian 2.1 No Pan-European Retail Bank Peninsula or Germany, taken by them- Retail banking, as we understand it, selves,representlargeenoughmarkets, means a close relationship with the cus- as does France. Central Europe, with tomersintworespects:first,geograph- its up to 40 million — depending on ically,to be present locally near the cus- the geographical definition — inhabi- tomer by means of a network of branch tants and, thus, potential customers, offices and alternative distribution could also develop into such a region channels, and, secondly, a system of constituting a promising market for decisions made locally and guarantee- retail banking activities. ing quick and customer-oriented solutions, for instance as regards loans. 2.2 Erste Banks Extended Home Nobody can know the structures and Market in the European Retail requirements of the local industries Banking Regions better than the employees in the branch An expansion of a bank into Central offices. There is no doubt that adequate Europe, into a politically stable and control mechanisms are necessary, but economically booming region, leads, decisions regarding loans that are taken on the one hand, to a more favourable in financial centres far away only lead distribution of risk in markets showing to an alienation from the customer and different rates of economic develop- his needs. ment and, on the other hand, contrib- If this is regarded as a prerequisite utes to a heightened stability of the for the successful implementation of a banks economic development. With retailstrategy,therewillbenodevelop- the economic development in Western ment towards a retail bank active Europe stagnating at present, and pol- throughout all European countries. iticians spending their time in futile On the contrary: local closeness to discussions about the exact starting the customer requires an easy-to-sur- point of a recession, the economic vey radius of activity as well as a suffi- research specialists are predicting cient number of potential customers. growth rates of about four percent A study of the development of banking for the Czech Republic, Slovakia, throughout the European countries Poland, Hungary and Slovenia (see over the past ten years will confirm 2002/3 EU spring forecast of the above thesis. Several geographical April 24, 2002 for EU candidate regions in which profitable retail countries).

Table 1 Selected Economic Data

GDP growth C/A CPI

2001e 2002e 2001e 2002e 2001e 2002e in % % of GDP in % Czech Republic 3.0 3.5 (5.7) (4.8) 4.4 4.0 Slovak Republic 3.2 4.0 (8.9) (6.9) 7.2 4.4 Hungary 4.5 4.8 (3.5) (3.2) 7.8 5.5 Croatia 4.0 3.5 (3.5) (3.0) 4.8 4.5 Austria 1.3 1.9 (2.6) (2.5) 2.6 1.9 Source: Erste Bank, EBDR.

117 Reinhard Ortner

Chart 2 Erste Banks Extended Home Market in the European Retail Banking Regions

Scandinavia

British Islands

BeneluxGermany Poland

France Central Europe

Iberian Peninsula Italy

3TheStrategy 3.2 Customers as the Basis of Erste Bank for Economic Success 3.1 Clear Focus in Termsof Geography Western European customers cannot, and Content of course, be compared in any way to ThestrategyofErsteBankconcentrates those in Central Europe. However, in on business with the private customers thisliestheattractionoftheEUenlarge- and with small and medium-sized ment for the enterprises active in these enterprises. From a geographical point markets, rendering them highly inter- ofview,welimitourselvestotheregion esting to investors looking for values of Austria and the surrounding coun- with a chance or potential of yielding tries. These are the Czech Republic, high profits. Furthermore, in this area, Slovakia, Hungary, Croatia and Slov- the acquisition of therelevant customer enia. These countries not only present structures is also more cost-advanta- us with a closed-in economic area with geous. Erste Bank paid approximately more than 40 million inhabitants, but EUR 400 for a customer in this area, as are also a geographical entity of a size compared to — by now — EUR 4000 per perfectly adapted to the structure of customer in Western Europe. Erste Bank. Product-wise, our focus It is our opinion that, within this is on mortgage and infrastructure fi- strategy, the key to success is the num- nancing as well as investment and pen- ber of customers attended by one insti- sion products. tution. The larger the number of customers to which an institution has access, the stronger the latters position within the distribution market of financial services. The more customers an

118 Reinhard Ortner

Chart 3 The Market Strength of Erste Bank1)

EUR billion %

250 50

200 40

150 30

100 20

50 10

0 0 Citibank HVB Unicredito AIB Erste Bank Market capitalisation (left-hand scale) Market share of deposit banking in CEE (right-hand scale) Source: Bankscope and GS Research. 1) Including Poland. institution can boast, the more attrac- sivebasisofcustomer relationsavailable tive it will be as a partner for other sup- within the region at present. This also pliers of financial services who may not brings an advantage that is almost as want to build up their own distribution important for a retail bank, namely, ac- network or for whom such an invest- cess to inexpensive customers money ment appears too expensive. An insti- that will eventually lead to a favourable tution with a market share of between refinancing basis on the assets side. 15% and 20% will be a welcome part- nerfor insurancecompaniesandinvest- 3.3 Cross-Selling on the Highest Level ment companies looking for access to Offers New Potential this market. And, as in the food trade, Nowadays, retail banking in Central any distributor whose portfolio in- Europe is much less concerned with cludes an adequate number of custom- spreading basic banking services than erswillbeabletofixthemarginsthathe it would have been only a few years is prepared to pay for the products that ago. At that time, percentageswere cir- he does not manufacture himself, but culated that reflected the percentage of acquires by purchase. the population owning a bank account With the acquisition of the two in a particular country and/or the savings banks in the Czech Republic number of enterprises that still handed and in Slovakia, Céska« sporítelna and out their employees wages in enve- Slovenska« sporitelná, with their more lopes. In this area, the Central Euro- than eight million customers, Erste pean countries have caught up with Bankhasacquiredthemostcomprehen- amazing rapidityover thelastfewyears,

Table 2 Range of Products and Distribution Channels of Erste Bank

Branch offices Financial advisor Callcentre Internet Austria 1,1251) 333 Czech Republic 684 333 Slovak Republic 441 — — 3 Hungary 66 — 3 — Croatia 107 — 33 Source: Erste Bank, EBDR. 1) Including the 810 branch offices of the Sparkassen (savings banks) group.

119 Reinhard Ortner

Chart 4 Growth in Financial Assets per Household from 1995 to 2000

Deposits Customer Loans EUR thousand EUR thousand

30 5

24 4

18 3

12 2

6 1

0 0 Austria Czech Republic Slovakia Austria Czech Republic Slovakia

Erste Bank market share in %1) Erste Bank market share in %1) 20.8 37.5 40.8 19.1 32.4 24.9

Mutual Funds Insurance Savings EUR thousand EUR thousand

12 12

10 10

8 8

6 6

4 4

2 2

0 0 Austria Czech Republic Slovakia Austria Czech Republic Slovakia

Erste Bank market share in %1) Erste Bank market share in %1) 20.6 49.5 12.4 2.0 1995 2000 Source: Erste Bank, EBDR. 1) Based on 2000 Financials and market statistics.

coming close to Western European While, for instance, each Austrian citi- standards almost everywhere. In the zen invests approximately EUR 12,000 meantime, a new world is opening of his available income into funds, the up in retail banking: nowadays, we corresponding value in the Czech aremoreconcernedwiththecross-sell- Republic, where C´eska« spor´itelna has ing of the various banking products that a market share of almost 50% in this are (can be) offered in the relevant branch, is no more than approximately countries. EUR 200. A comparison with the Comparing the current market situation in Slovakia reveals similar shares of the two leading retail banks potentials. intheCzechRepublicandSlovakiawith the market shares held by Erste Bank in 3.4 The Right Moment Austria, it is easy to see the enormous In accessing an emerging market, the growth potential still present in these question of the right moment is, of markets. The relation of the available course, always a fundamental one. In incomes is approximately one to ten. Central Europe, or so it seems, the

120 Reinhard Ortner

most important markets — that is, from in this area because they are realizing our pointofview,thecountrieswiththe that market shares of less than 10% highest population figures — have al- do not constitute investments that will ready been divided among the various turn in long-term profits. Moreover, competitors. Most recently, a shifting regional banks of varying financial ofmarketsharescouldonlybeexpected soundness will continue to be for sale. in Hungary and Croatia. The privatisa- Experience shows that retail bank- tion of the large banking firms has been ingcanonlybecarriedonsuccessfullyin completed in all countries. And, as in those economies that have reached a Western Europe, the three largest mar- certain level of economic development ket participants in Poland, the Czech regarding the average income or per- Republic and Slovakia with their sub- capita capital assets. In all other coun- sidiaries dominate more than 50% of tries, investments are too risky and/or the market. In Hungary and Croatia, the chances of profit are insignificant further consolidation steps are already owing to a lack of purchasing power. under way or are to be expected that Erste Bank has succeeded early on offer new opportunities of acquiring in quickly positioning itself as one of market shares. As recently as May the leading retail banks within the re- 2002, this enabled Erste Bank to in- gion.Thisistruenotonlywithregardto crease its market share in Croatia from the market shares in important product 4% to 10% by acquiring 85.02% of segments, butalsowithregardtoaccess Rijecka Banka, thereby expanding its to the customer groups that are impor- customer base to 600,000 customers. tant for retail banking. We are no late Many foreign investors are even comers, but frontrunners in retail abandoning some of their operations banking,since thereare just afewbanks

Chart 5 Number of Customers of Erste Bank in Central Europe

Czech Republic 4.9 million

Slovak Republic 2.3 million Austria 2.4 million1)

Hungary 0.4 million

Slovenia Croatia 0.6 million

1) Including the 1.8 million customers of the Sparkassen (savings banks) group.

121 Reinhard Ortner

withintheregionthathavesucceededin tial characteristic and — as the success of building up a customer base wide the past few months has shown — a com- enough to enable them to recover their parative strategic advantage over the investments through the various distri- competition. bution channels. The market leadership of Erste Bank group in Central Europe is not 4 The Comparative an end in itself, though. It affords Advantages the basis for increased profitability of of Erste Bank Group the entire group and is grounded on 4.1 Market Leadership a swift and effective integration of Within Five Years the Central European banking estab- By concentrating on the economic area lishments and on regarding them to outlined above and the customer reachErsteBankqualitylevels.Wehave groups which have been mentioned, demonstrated that we are able to make ErsteBankhassucceededinestablishing 1 + 1 add up to more than just 2, and to itself as one of the most important par- do so for the benefit of our customers, ticipants in the Central European mar- employees and shareholders. ket since going public in 1997. Figure- wise, the picture is as shown in table 3. 4.2 Uniform Market As a result, Erste Bank group and for Customers and Employees the Austrian savings banks taken to- Tied up with the expansion of Erste getherarecurrentlyhandlingmorethan BankintoCentralEuropeisthecreation ten million customers within their ex- of a uniform geographical market for tended home market. This and its al- both customers and employees. This most 30,000 employees make Erste distinguishes our strategy from that Bank todays leading financial services of our competitors. As an example, group within the region. Vienna is only about 50 minutes distant Offeringservicesrangingfromcap- by car from the Slovakian capital, Bra- ital-building to financing to insurance, tislava,andPragueandBudapestareless Erste Bank group quite distinctly and than 4 hours away. Austria is a popular uncompromisingly concentrates on holiday region for Hungarians and private customers and small and me- Czechs, not only in winter, and the dium-sized businesses. This is an essen- Croatian coast is also high up on the

Table 3 Participation of Erste Bank Group in the Central European Market

Austria Croatia Slovakia Czech Republic Hungary Bank Erste Bank Sparkassen Erste & Steier- Slovenska« Céska« sporítelna Erste Bank der oester- ma‹rkische Bank; sporitelná Hungary reichischen Rijecka Banka Sparkassen Participation since 1995 since 1998 since 2001 since 2000 since 1997 and 2002, respectively Balance sheet total EUR 56.7 billion EUR 3.5 billion — EUR 4.7 billion EUR 13.9 billion EUR 961 m Branch offices 315 810 107 441 684 66 Employees 4,750 — 2 6,300 14,500 950 Customers 600,000 1,800,000 600,000 2,300,000 4,900,000 400,000 Market share 5.50% 45% 10% 41% 32% 3% Source: Erste Bank, EBDR.

122 Reinhard Ortner

list of favourite holiday destinations of expansion strategy. It was, and still the Central Europeans. A uniform IT- is, our goal to independently manage system enabling the (travelling) cus- and expand an international group tomer to print bank statements in while operating from Austria. Today, the required language in all branch of- the former Erste oesterreichische fices of a banking group active within Sparkasse is the biggest Central Euro- the region in question and/or to carry pean supplier of financial services with out banking transactions in the branch its corporate headquarters in Austria. offices, offers an enormous strategic The number of customers — which, advantage by comparison with those in- as pointed out above, is one of the stitutes whose markets are one or two most important indicators of success thousand kilometres apart. for a supplier of financial services — The employees also profit from the had been increased more than ten- attractiveness of a uniform market. fold, i.e. from Leavingasidefor themomentapossible 600,000 to more language barrier, it should be no prob- than 8 million, lem to change from one subsidiary of within48months the group to another: an employee of of going public in the Slovakian investment company will 1997. What was be able to change over into a branch decisive for the office in Austria or in the Czech success of this Republic, just as a culturally interested transformation Hungarian fatherof a family will be able was not least the conviction of all tocarryouthisjobasacustomeradvisor policymakers that the independence in festival towns like Salzburg, Vienna, of Erste Bank could best be maintained Bregenz or Prague for a few years. byupgrading ittobecomeanimportant These are no utopian ideas. Wewill still player within the Central European need a few years to implement them, region. The concept behind this vision but we are on our way. is that of partners of equal standing — meaning the countries concerned as 4.3 A Spirit of Partnership well as the banking establishments con- Based on a Cultural, Sociological cerned — growing together to form a and Geographical Advantage new identity. Although, from time to time, political Our firm belief in the region of obstacles may have to be overcome in Central Europe and our strong orien- our relations with our Central Euro- tation towards pursuing a dialoguewith pean neighbours, it is especially in all the stakeholders from that region the area of business that one can see have always been present during the howmuchtheCentralEuropeanregion process of making Erste Bank the lead- has grown together over the past few ing Central European supplier of finan- years. Here, Austrian businesses have cialservices.Indeed,yetanotheressen- an advantage — for instance over their tial comparative advantage of Erste Anglo-American competitors — not Bank group seems to be the personal only in terms of geography but also contacts and business relations where sociological aspects and (busi- throughout the region which have de- ness) culture are concerned. veloped over many years. We have Erste Bank has succeeded in using shown that, in an international group, and maintaining that advantage in its personal roots not only have their place

123 Reinhard Ortner

but are an invaluable asset. Openness iarwithourcommonconceptsandhave and fairness as well as the practice of a clear view of the goal. relating to shareholders, investors, an- Weset great store by personnel de- alysts, customers, partners and em- velopment because, if a team wants to ployees in a spirit of partnership are make itsway,everybodymust know the essential aspects of our strategy and, direction and all must join forces. In the therefore, of our success. space of just a few years, we have managed to create a feeling among our em- 4.4 In Every Relationship, ployeesthatweallbelongtogether.This Its the People that Count feeling transcends the boundaries of in- is more than a buzzword within dividual banks and countries. The con- Erste Bank group. For, in modern sciousness of contributing to the suc- marketing, it is the people, i.e. the cess of our young, Central European customers and employees, who are group and being rewarded by respect at the centre of attention. The central und recognition — not only in onespro- importance of this human aspect is fessional life but also in ones private particularly well exemplified and environment — is a spur and motivation easily measurable in the Czech Repub- to many of our employees and doubt- lic, where, only a short time after its lessly quite an essential USP of Erste integration, C´eska« spor´itelna has been Bank group as compared to our com- voted the most customer-friendly petitors. bank and the third friendliest business of the country. Since the take-over, it Conclusion has already won half a million new Over the past five years, Erste Bank has customers — and not quite by chance, proved that an Austrian business is it seems. capable of building up an international This example demonstrates clearly group by its own efforts, where all to what extent: the people behind the business policy decisions are taken in various ratios, quotations and yield fig- Austria. On the one hand, this success ures matter, especially in the banking is based on the clear strategy which business. At the end of the day, it is we have been pursuing with determi- the employeeswho arethe most impor- nation since going public, and on the tant success factors, in bringing a strat- other hand it is based on the motiva- egy and an idea to fruition. We at Erste tion of our staff, who, in the main, Bank realized this early on, and it is of are performing their work for the the utmost importance to us that the biggest supplier of financial services employees of our group, although their of Central Europe with pride and number mayhavemultiplied, arefamil- enthusiasm. §

124 Albrecht Schmidt Spokesman for the Board of Managing Directors, HVB Group

Comments for the Panel Discussion on the Scope for Regional Financial Institutions

Businesswith regions has acquired such systems must also pass on bottom- an appeal because the regions in Europe upmarketsignalstoenablefinancial are experiencing a renaissance. This institutions to adjust flexibly to development began twelve years ago changing customer and market rein Central and Eastern Europe with quirements. the downfall of an ideology and cen- Regional financial institutions have trally planned economies which burst the advantage in business management not only external but also internal terms of not hav- borders. And through globalization ing to dissipate and the competition for industrial loca- their energy over tions, in Western Europe the same a broad area. development which repelled the level- Instead, they fo- ing force of the nation and welfare state cus on regional is becoming perceptible so that long growth poles buried regional self-confidence is which usually now reviving. In Britain, Scotland holdtrumpcards and Wales have already achieved more in the form of specialization, close eco- autonomy, and even in such centralist nomic networks, and low transaction countries as France, Italy, and Spain, costs because they are geographically regions have won greater independ- close to each other and have much in ence. common. They profit from the competition of regions among each other Regional Market which, according to Friedrich A. Anchoring Hayek, is after all a process of discovery Regional financial institutions operate in the search for the best ideas, per- on the principle all business is local. formances, and solutions. The attrac- And they implement this principle by tiveness of the regions is enhanced (i) providing special proximity to the by a sensible regional economic policy, customer and regional expertise in moderate wage settlements, good pub- order to respond adequately to the lic administration, good educational needs and the individuality of the facilities,apro-businessclimate,recep- regions; tiveness to innovation and location of (ii) decentralizing and delegating mar- new business. In terms of the economy, ket responsibility and establishing strong financial institutions are of great local competence centers to keep advantage for the regions: Modern fi- decisions paths short; nancial services increase their effi- (iii) building efficient corporate man- ciency and promote their development agement systems which allow a by mobilizing savings, capital inflows top-down cascade of goals and con- and direct investments, and facilitate trol impulses to ensure that objec- transactions and risk management in tives are achieved and risk control is business. Central and Eastern Europe, in place. On the other hand, these the region of the future, still has much

125 Albrecht Schmidt

catching up to do in this area if in ad- funding. At present we are witness- dition to joining the EU these countries ing this development in the EU are also to equal Western performance Member States. In the countries and standard of living. of Central and Eastern Europe, the still underdeveloped capital Global Product Capability markets are profiting from the de- Financial institutions operating in the velopment of privately financed re- European regions need a broad horizon tirementpensionsystemswhichare and cannot ignore globalization and its further ahead than in the West. demands. Withthisinmind,itisprobablycor- (i) Global competition for risk capital rect that these countries will make as a scarce resource means that the transition directly to a market- shareholders demand an adequate orientedfinancingsysteminsteadof return. No company can afford goingtheroundaboutwaythrougha to ignore this if it hopes to retain bank-oriented financing system. its independence and scope for ac- (iv) Globalization also brings larger tion. Companies must thus be market dimensions and makes streamlined from top to bottom. our operations more international. They must concentrate on per- This creates economies of scale and formance in the market and — as scope, in other words cost savings a reflection of this — reduce loss- and new services demanded not making corporate activities, all onlybyglobalbutalsolocalcustom- the way down to the individual ers. No longer content with tradi- regional units. tional service, customers are de- (ii) The opening up of the markets, in- manding international product creasingly shorter product life capabilities, global market links, cycles, and the Internet have low- speed, and convenience — and all ered market thresholds and gener- this at a low price. ated ever steeper international competition. As a result, compa- The Bank of the Regions nies must gear themselves to the The HVB Group which arose from the market and their customers. Re- merger of two regional universal banks gional niches are tending to disap- entitled to perform mortgage banking pear. operations and the coalescence with (iii) One result of the liberalization and Bank Austria, is meeting the challenges linking of capital markets is the re- of both regionalization and globaliza- vival of many old financing instru- tion. With total assets of EUR 728 bil- ments such as shares and corporate lion, shareholders equity of EUR 25 bonds,butalsotheriseofinnovative billion, almost 70,000 employees instruments like ABS and MBS and and over 2,200 branches, it is one of the development of increasingly the three largest banks in Europe. As complex financing solutions. This a focused universal bank it no longer has consequences for financing does everything for everyone like tradi- structures: financings which tap tional universal banks, but instead con- thecapitalmarketareontheincrease centrates on business segments in and are accompanied — in no small which it is or in the foreseeable future measure as a result of Basle II — can become a market leader. In so by a re-dimensioning of credit doing, it pursues a distinct strategy be-

126 Albrecht Schmidt

tweenthetwoextremesofglobalplayer The New Management and niche specialist. This is the strategy and Control Structures of the Bank of the Regions based on its In broad private customer business and market anchoring, its resources, and its in business with midsized corporate product capabilities. As such, the HVB customers, what counts is regional ex- Group is a leading bank in Germany, pertise,individualadvisoryservice,and Austria, and Central and Eastern short decision paths. For this reason we Europe, a market with altogether have grouped the Bank of the Regions 160 million inhabitants. into two regional business segments: At the beginning of this year, the (i) One is the business segment Bank introduced a new management Austria/Central and Eastern and control structure. Three alterna- Europe. The leading company for tives were conceivable: our offices in this area is Bank (i) A purely regional orientation. This Austria Creditanstalt. In Central would have meant ensuring cus- and Eastern Europe, we focus espe- tomer proximity, regional exper- cially on Poland, the Czech Repub- tise, short decision paths, but also lic, Hungary and Slovakiawhere we the loss of economies of scale and are in each case one of the top banks global product capabilities. with a market share ranging from (ii) A purely divisional, product-ori- 4% to 10%. ented stance with retention of (ii) The other regional business seg- the advantages of economies of ment is Germany with HypoVer- scale and international product ca- einsbank in the south and Vereins- pability, but with the risk of losing und Westbank in the north. contact to the customer and local We will continue enhancing our anchoring. position through a regional brand (iii) Linking the regional and divisional and the cost advantages of a standar- strategies. In the past, the HVB dized range of products in our core Group had already had such a markets while expanding our position matrix organization which had in other regions of Europe as well. proved itself to be far too compli- The HVB Group has bundled the cated. It also absorbed too much international product capabilities of energy and resources which then our capital-market bank in three global were lacking when it came to pro- business segments: viding optimum customer service. (i) We have HVB Real Estate which This explains why the HVB Group through the merging of three for- sought a fourth solution: a simple merlyindependent mortgagebanks combination of regional and divisional has opened up opportunities for management, entirely without a ma- growth at home and in the inter- trix. Here regional operations in the national real estate business where Bank of the Regions in Europe are margins are better. This segment linked with the global product capabil- serves professional customers in ities of the Bank of the Capital Markets Europe and the U.S. and creates withwhichwehavecompletedour new scope for new business through se- Group structure. The HVB Group now curitization and placing risks in the altogether consists of five business capital market. divisions. (ii) Then there is HVB Corporates & Markets which is responsible for

127 Albrecht Schmidt

all activities in global capital mar- development of the HVB Group, but at kets for the HVB Group and for the same time forged a close link be- the multinationals and those which tween strategic and operative respon- tap the capital market. It serves sibilities through the members of these for product development and acts boards. The Board of Directors for the as service provider for the Bank of HVB Group is responsible for strategic the Regions. control, but in addition to the spokes- (iii) Next comes HVB Wealth Manage- man of the Board of Managing Direc- ment which brings together the tors, the Chief Financial Officer and important growth areas, Private Chief Risk Officer, the Board also Banking and Asset Management. includes the heads of the various busi- It delivers product and service ness segments. They hold operative re- solutions related to asset accumu- sponsibility together with their chief operating officers at the division level in the individual business segments and member banks. In contrast, the Board of Directors for the HVB Group is responsible for the strategy of the entire HVB Group, in particular for the Groups business segment portfolio, for the allocation of resources and capital, and for controlling Group busi- lation and provision for the future nesssegments.Theaimofthenewman- for private and institutional cus- agement structures is to enable the tomers. The HVB Group is a HVB Group to respond faster and pioneer in the growth market of more sensitively to changes in the company retirement plans. market. The goal of these global business In short, it could be said that the segments is to offer topnotch advisory concept of the HVB Group as a Bank servicetoclientsseekingcapitalmarket of the Regions and global markets best solutions and to provide them with fulfills the needs of customers, share- global market capabilities. holders and employees for regionality The prerequisite for regional ex- and globality. This concept, coupled pertise and global product capability with our new management structure, is consistently defined with clear man- constitutes a synthesis which combines agement responsibility. In the newly customer and market proximityof a reformed management boards we have gional bank with the capabilities and separated the operative responsibility cost advantages of an international for the individual business segments bank. § fromstrategicmanagement andfurther

128 Axel A. Weber Professor, University of Cologne Member of the German Council of Economic Experts

Comments for the Panel Discussion on the Scope for Regional Financial Institutions

My task as the academic participant (which probably applies more to on the panel will be to put into per- internationalisation than to regional- spective the strategies we have been isation). hearing about and to relate them to Given these two alternative strat- the current economic debate. Before egies, which specific factors can be that,letmemaketwodisclaimers:first, said to support the regionalisation of I should like to say that I speak here banking, that is, the strengthening purely in a personal capacity.The views local customer- expressed are my own and do not client relation- necessarily reflect the views of German ships? What is Council of Economic Experts. Second, the key role of I am not an expert on banking strat- a regional/local egies. However, the organisers know bank? In the EU that as a former Director of the (and to a similar Frankfurt-based Center for Financial extent in the Studies I have hosted many bankers U.S., as Gover- talks and heard the entire spectrum nor Santomero indicated over lunch) of banking strategies and their adapta- local banks typically provide credit tion over time, so based on that expe- to small businesses. Such small business rience, I hope to have something loans are usually associated with a interesting to add to this panel on higher cost of project evaluation than the scope for regional financial institu- loans to large firms with more estab- tions. lished track records and reporting This topic is of interest because we practices. Why is this the case? The observe two diametrically opposed key argument is that information access trends in banking and finance today, for such small businesses is typically namely globalisation/internationalisa- more limited, and local banks have tion/cross-border banking and region- better access to intangible information, alisation. Both strategies are interre- for example, they are aware of the rep- lated and cannot be discussed in isola- utation of the creditor in the local com- tion, since they are the two possible munity.Therefore, local banks can do a choices for banks embarking on differ- better job at evaluating credit risks as ent avenues of geographic diversifica- they have a comparative advantage tion. But why do banks diversify geo- in solving the asymmetric information graphically? Two main arguments are problems inherent in credit relation- typically referred to: first, cost syner- ships, that is reducing adverse selec- gies, usually achieved in connection tion, moral hazard and the cost of with x-efficiency gains or economies the private production of information of scale or scope, and second, revenue versus publicly available information, synergies, usually by moving into which is very limited for small enter- either less than fully competitive prises. Furthermore, local banks in- markets or into growing markets formation advantage with respect to

129 Axel A. Weber

small businesses is frequently given by concentrated banks from a systemic the fact that they also simultaneously pointofview?Ifregionalbanksare seri- deal with their credit customers on ously exposed to regional shocks an the deposit and transaction side of optimal response to this would be to the business. Such information is typ- diversify the banks exposures by ically not available to non-regional branching out across regions, either credit competitors of regional banks. nationally or even cross-border if nec- So, why is regional banking not an essary. In addition, this would have undisputed strategy in the geographic further benefits through exploiting diversification attempts of the banking economies of scale by being part of a industry? The answer is simple. The large and strong financial group. But same factors that are behind the major how pressing is the need to diversify advantages and opportunities offered against the adverse effects of regional byregionalbank- shocks? Empirical evidence suggests ing are responsi- that a considerable degree of regional ble for the higher diversity is present and will persist risks of regional within the EU, but the occurrence of banks as well, regional as opposed to national, EU- that is regional wide or even global shocks has been banks are more declining over the years. European in- vulnerable to re- tegration and the impact of Economic gional economic and Monetary Union (EMU) are mak- slow downs due to their regionally con- ing European regions more synchron- centrated loans and deposit business. ized in terms of their business cycle and For example, in June 2001 roughly inflation performance. However, em- two thirds of the U.S. banks had more piricalevidencealsosuggeststhatstruc- than 97% of their loans outstanding tural change in the European industrial concentrated in a single county. Note landscape is causing very diverse and that I said county and not state, since persistent differences in the regional due to the institutional and legal set- employment impact of this process. up in the U.S. the latter would not Unemployment rates differ dramati- be too much of a surprise. Local or re- cally across European regions and show gional shocks therefore simultaneously little tendency of convergence. Re- reduce the credit quality of many loans gional concentration of large business in a system of predominantly regional firms or even entire industries, such as banks. The recent literature on the coal or steel in Germany, is partly re- credit or banking channel of monetary sponsible for this. If regional shocks are policy transmission would suggest that likely to be less of a problem in the this may amplify the differential re- future, the exposure of regional banks gional impact of a common monetary to such shocks is likely to decline. At policy if asymmetric negative shocks the same time the advantages of nation- occur predominantly at the regional wide banks in diversifying risks by op- level. This is precisely why optimal erating across many regions will de- currency area considerations would cline, since regions which show strong not favour a common monetary policy cyclical co-movements provide little in such circumstances. diversification. Risk diversification So, should we worry about banking motives therefore are likely to drive systems with predominantly regionally nation-wide banks to embark on

130 Axel A. Weber

pan-Europeanorevenglobalgeograph- EU. Aggregating this information up ical diversification strategies, whilst re- through the system to the national gional banks are likely to focus more on and European level is the second, fed- their comparative advantage in credit eral pillar of bank supervision that risk evaluation at the regional and local needs to be developed and strength- level by providing credit to small and ened quickly in Europe. Efficient and medium scale regional firms. fast real time coordination across coun- My previous remarks suggest a triesintheEUshouldbeakeyfeatureof development in banking that may best the banking supervision system. The be described by a hollowing-out sce- European System of Central Banks nario: large banks will grow bigger (ESCB) will have to play an important and more international, whilst regional role in this process of understanding bankswillremainfocussedontheircore systematic risks locally and aggregating business, which is likely to remain this information system-wide. But so locally contained. However regional far I only talked about banks, disregard- banks are also likely to network with ing other financial institutions, such as each other increasingly, owing to at- insurance companies, asset manage- tempts to exploit scale effects. What ment institutions, stock exchanges, are the policy implications from this? near-banks, non-banks etc. The Let me focus on those issues that are branching-out of financial institutions of relevance to a central bank. Due into the various lines of business and to time constraints I will focus exclu- financial products complicates the co- sively on supervisory issues here. Let ordination process considerably. This me start with a question I asked Gov- suggests that the ESCB is unlikely be ernor Santomero over lunch: Is super- theonlyagencyinvolvedinthisfinancial vision demand different for more supervision process at the European (locally) concentrated regional banks? level. But institutional arrangements Differences in vulnerability to local de- in this area need to be implemented velopments make local information soon, before the failure of a large and data processing more important. pan-European financial institution Governor Santomero called this the highlights this need for action in a more grass-root perspective of supervision. obvious manner.Thus, if speed is of the National central banks in the Euro- essence, entrusting the ESCB with the system and even regional branches of task of building a pan-European co- national central banks (such as the for- ordination system for financial super- mer Landeszentralbanken in Germany) vision seems like the natural thing will therefore have to continue to play a to do in order to fill this vacuum key role in safeguarding the soundness quickly. § of the local and regional banks in the

131 30. Volkswirtschaftliche Tagung 2002

30th Economics Conference 2002

Klaus Liebscher Klaus Liebscher Governor, Oesterreichische Nationalbank

The Role

of National Central Banks

Within the European System

of Central Banks

Introductory Statement

Welcome back to our conference. Today, we have quite a comprehensive and ambitious program on our agenda, which covers institutional matters, the issueoffinancialstructuresandoffinan- cial market surveillance in Economic and Monetary Union (EMU), as well as the question as to whether structural economic differences in EMU are a matter of concern. Iamhappyandhonoredtowelcome my esteemed colleagues and close personal friends, Jean-Claude Trichet and Arnout Wellink, both also members of the Governing Council of the European Central Bank (ECB), who have contributed substantially to shaping the Euro- pean System of Central Banks (ESCB) asitexists andasit successfullyoperates today. Klaus Liebscher

As you know, the ECB Governing all central decision-making proc- Council usually takes its decisions by esses within the ESCB — today I consensus. So, do not expect us to offer have to be more specifically by say- controversial views on the role of the ing in the Eurosystem. national central banks (NCBs) within — Second, in this context the national EMU simply to spark a lively debate at central banks serve as intermedia- this conference. But we have made it ries between the single monetary a principle and good tradition to invite policy and national economic pol- academics and advisors for an open icies. exchange of views on all matters — Third, they act as the Eurosystems relevant in our quest for the best mon- operative entities in carrying out etary policy for European citizens. It monetary and foreign exchange is thus a great pleasure for me to policies as well as policies relating welcome David to payment systems and in compil- G. Mayes and ing monetary and balance-of-pay- Richard Portes, ments statistics. who will, as — Fourth, the national central banks I expect and contribute the ECBs capital and, hope, help us as the owners of the ECB, also re- tease out some ceive their share of ECB income. of the more ana- — Fifth, the national central banks, lytical issues at apart from being ESCB member stake in the context of the role of banks, continue to exist as inde- NCBs within the ESCB. pendent institutions and as such The division of tasks within the are free to perform additional func- ESCB is an old — and much discussed — tions on their own responsibility. issue. It was extensively considered in Inthemeantime,roughlyfour years the Committee of Governors and in the later,we have gained a lot of experience Intergovernmental Conference for the in the practical functioning of the Euro- Maastricht Treaty in the late 1980s, system. What is my personal assess- when the draft Statute of the ECB ment of this experience in short? and the ESCB was being prepared. Also — First, I think that the five areas of a considerable portion of the work of NCBs responsibility I mentioned the European Monetary Institute be- before, which in 1998 were still tween 1994 and 1998 concentrated conceived to be somewhat pro- on the allocation of precise responsibil- grammatic, have very much turned ities and the design of efficient proce- out to become the reality in the dures for deciding on, and implement- Eurosystem. ing, the euro areas monetary policy. — Second, once the rules of the game The issue was also addressed in a had been agreed upon — admittedly previous OeNB Economics Confer- not always an easy process — the ence in May 1998, i.e. shortly before Eurosystem in its actual operation the establishment of the ECB. On that turned out to work very smoothly occasion, I identified five areas of and efficiently. responsibility NCBs would have in Clearly, the operation of the Euro- EMU: system willevolvefurther inthefuture, — First, the national central bank as the political and economic environ- governors actively contribute to ment in which the euroareasmonetary

136 Klaus Liebscher

policy operates changes. There will be systemis,indeed,capturedverywellby an evolutionary process in the course of thetopicourfirstspeaker thismorning, time, and the exact direction of this Jean-Claude Trichet, Governor of the evolution will be influenced by expe- Banque de France, has chosen: The rience gained in the conduct of mon- Eurosystem: The European Monetary etary policy and other areas of our busi- Team.The nature of good teamwork is ness. thattasksandresponsibilities areshared The very constructive and friendly in a fair manner among the members of climate within the group of personal- the team. § ities involved at all levels of the Euro-

137 Jean-Claude Trichet Jean-Claude Trichet GovernoroftheBanquedeFrance

The Eurosystem:

The European Monetary Team

The Maastricht Treaty clearly defines the institutional and organisational framework of the European System of Central Banks (ESCB) and of the Eurosystem, which comprises the European Central Bank (ECB) and the 12 national central banks (NCBs) of the euro area. I am convinced that such a set-up, which combines both centralised decisions and decentralised implementation, is able to cope successfully with current and future challenges.

The Unique and Original Set-Up of the Eurosystem Results in a Close-Knit Monetary Team The Unique Nature of the Eurosystem in the EU Construction The Monetary Field Falls Within the Exclusive Competence of the Community IntheEUconstruction,theEurosystem is a unique institutional structure, of a supranational(inaway:federal)nature. ThefirstbasictaskoftheEurosystemis, according to the Treaty, to define and implement the monetary policy of the community, in order to achieve the primary objective assigned to the Euro- system: maintaining price stability. Jean-Claude Trichet

The single monetary policy frame- This Unique Institutional Setting work implies that: is Enhanced by a Strong Independence — there are neither national nor re- Coupled with Transparency gional monetary policies in Euro- and Communication pean Monetary Union (EMU); TheindependenceoftheECBandNCBsis — thedecisions of theECB arebinding enshrined in the Treaty. When exercis- on the entire EMU; ing their powers and carrying out their — monetary policy decisions are im- tasks and duties, neither the NCBs of plemented in all Member States the Eurosystem nor any member of its participating in EMU according decision making bodies shall seek or to identical procedures. take instructions from Community in- Moreover, the probability of any stitutions, from any government of a inconsistency on exchange rate matters Member State or from any other body. — a subject on Independence means institutional, op- which responsi- erational and financial independence. bility is shared We consider this comprehensive defi- with the EU nitionasanessentialcontributiontothe Council — is clarity and the credibility of the single ruled out by sev- monetary policy. eral provisions. Transparency and communication: po- First, while liticalinstitutions, opinionleadersofall the ultimate de- sensitivities, enterprises, unions and cision to participate in an exchange public opinion at large must be fully rate system in relation to non-Com- informed on the conduct of the single munity currencies is to be made by monetary policy: an independent insti- the EU Council, the Treaty points tution is in fact accountable before the out that the ECB shall be consulted public opinion. The ECB was one of in an endeavour to reach a consensus the first central banks in the world consistent with the objective of price to introduce, as of 1 January 1999, stability. Such a decision can indeed the concept of a regular, frequent, have important implications for mon- real-time display of the detailed diag- etary policy. nosis of the central bank. Indeed, once Second, the Luxembourg European amonth,immediatelyafter themeeting Council in 1997 stated that the EU of the Governing Council, the Presi- Council may formulate general orien- dent of the ECB holds a press con- tations for exchange rate policy only ference. in exceptional circumstances, and that The independence of a central bank these general orientations must always and its accountability are two sides of be consistent with the primary objec- thesamecoin.Inthisrespect,bothpub- tive of maintaining price stability and lic speeches and testimonies by the respecting the independence of the President of the ECB and by the gov- Eurosystem. This reinforces the cred- ernors of NCBs, to the attention of ibility of the commitment to price institutions as well as public opinion, stability and rules out the likelihood are significant, and an important part of any inconsistency between exchange of our collective duty consists in tire- rate policy and monetary policy. lessly explaining the reasons and the arguments that underpin the decisions of the Governing Council.

140 Jean-Claude Trichet

The EMU Set-Up also Provides group and the Ecofin Council) and for a Permanent Dialogue with the European through the implementation of the and National Authorities, Stability and Growth Pact. Moreover, as Well as an Operational Framework the Broad Economic Policy Guidelines, dis- for the Co-ordination of Economic Policies cussed each year by the Heads of States At the European level, the ECB main- and Governments, help monitor and tains a permanent dialogue with the guide macroeconomic and structural European Council and the European developments in the Member States. Parliament, as NCBs do with national institutions. As the Eurosystem oper- An Original Framework ates with a plurality of languages, it with Centralised Decisions is important that its message is con- and Decentralised Implementation veyed by all the governors who are Centralisation of the Decision the natural contact point of the Euro- Within the Eurosystem system for their respective national The Treaty provides for a centralisation public opinion, national media and of the decision-making process within national parliaments. This shared re- the Eurosystem. This contributes to sponsibility enables the Eurosystem strengthen confidence in the institution to deliver a single message as regards and credibility in its commitment to monetary policyand the exchange rate. price stability. Turning now to economic policy — The Governing Council of the ECB is that is to say fiscal and structural pol- the supreme decision-making body of icies — there are sometimes questions the ECB. It consists of the six mem- on an alleged lack of co-ordination be- bers of the Executive Board and the tween Member States economic poli- twelve governors of the NCBs of the cies, in the absence of a political fed- Member States which have adopted eration. the euro. It is not disputable that for EMU to According to the Treaty and the function well, Member States, espe- Statute of the ESCB and the ECB, de- cially the major ones in terms of cisions relating to the objectives and GDP, must be aware of the spill-over tasks of the Eurosystem are taken cen- effects of all their national budgetary trally by the Governing Council which policies. The existence of spill-over ef- adopts the guidelines and takes the fects justifies the implementation of decisions necessary to ensure the per- close co-ordination between national formance of the tasks entrusted to the economic policies. This is contained Eurosystem. In particular, the Govern- intheTreatyitself,whichobligesMem- ing Council formulates the monetary ber States to treat national economic policy of the euro area and establishes policies as a matter of common con- the necessary guidelines for its imple- cern and subjects them to a multilat- mentation. eral surveillance procedure. The Executive Board of the ECB is Institutions and mechanisms have primarily the co-ordinating centre at thus been set to promote the required the operational level. In accordance level of co-ordination. A coherent op- with the guidelines and decisions laid erational framework has been provided down by the Governing Council, it for the co-ordination of economic pol- adopts implementing instructions ad- icies through close mutual surveillance dressed to the NCBs, which enables (under the responsibility of the Euro- the Eurosystem to react and adapt to

141 Jean-Claude Trichet

quickly changing conditions in the Given due account of the knowl- money and capital markets, to address edge and operational experience accu- specificcasesandtodealwithmattersof mulated by the staff of NCBs in the set- urgency.Tosum up, with its central co- up of the Eurosystem, the system ac- ordinating position, the Executive tually relies on the NCBs for the imple- Board, and thus the ECB, is the coach mentationofmonetarypolicy,theman- of the whole Eurosystem monetary agementofforeignreserves,thecollec- team. tion of statistics, the issuance of bank- The ECB and NCBs co-operate notes, the management of large value tightly in the decision-making process payment systems, etc. As integral parts through the ESCB Committees. Those of the Eurosystem, NCBs comply with ESCB Committees are composed of the internal legal instruments adopted representatives of the Eurosystem cen- by the Governing Council or the Executive Board. They act therefore as operative arms of the Eurosystem, carrying out on a decentralised basis the tasks conferred upon the Eurosys- tem in accordance tral banks and, where appropriate, of with the rules established centrally other competent bodies, such as by the Governing Council. national supervisory authorities in The experience accumulated since the case of the Banking Supervision 1999 has proven that this framework is Committee. At the request of both notonlypossible,astestifiedbythecur- the Governing Council and the Exec- rent practice, but is also appropriate. utive Board, they provide expertise in — Each NCB remains the natural con- their fields of competence and thus tact and interlocutor for credit insti- facilitatethepreparationoftheGovern- tutions established in its country. ing Council decisions. Theyare the access points to central money in euros for national credit Decentralisation of the Implementation institutions, which have their ac- of the Decisions: Decentralisation is Both counts on the books of the NCBs Possible and Appropriate This configuration ensures a level In accordance with European tradition, playing field for the different finan- theEurosystemadherestotheprinciple cial markets. of decentralisation, which stipulates — ThroughtheNCBs,theEurosystem that, to the extent deemed possible benefits from a direct access to and appropriate, the ECB shall have re- relevant national information. NCBs course to the NCBs to carry out oper- can also channel the local needs ations which form part of the tasks of to the European level and they the Eurosystem. This principle is the are of course an important channel organisational reflection, within the for communication of the Euro- Eurosystem, of the subsidiarity princi- system stance to the credit institu- ple which underpins the whole Euro- tions. pean construction.

142 Jean-Claude Trichet

The Cohesive Action frequent meetings, ultimately prove of Each Component of the very useful for the credibility of the Eurosystem Monetary Team Eurosystem. has Produced Effective Results and Concrete Close Co-operation and Team Spirit Benefits Between NCBs and the ECB The Mutualised Assets The Eurosystem is a team whose of the Eurosystem Monetary Team members work in close co-operation, Common View and Culture and the team spirit is very strong. The Within the Governing Council organisation of the European monetary The Governing Council takes the most team according to the principle of important and strategically significant decentralisation allows the system to decisions for the Eurosystem. Its com- take full advantage of the diversity position represents a very fruitful of its compo- ground for building a common Euro- nents, by making systemidentityandculture.Asamatter use of existing of fact, it perpetuates a well established knowledge and tradition of close relationships and co- resources with a operation, within the European Mon- view to share etary Institute (EMI), and even before competencies within the Committee of Governors of and experience the European Economic Community and enhance the (EEC), which was created in 1964 Eurosystems identity and corporate and greatly contributed to building culture. the indispensable common approaches The network of the ESCB Commit- in the run up to EMU. tees, which provide assistance to the For all decisions relating to the def- decision-making bodies of the ECB, inition and conduct of the single mon- plays an important role in forming etary policy, the Governing Council the co-operation spirit between the members vote according to the one central banks of the Eurosystem. This member, one vote principle. NCBs original institutional feature has governorssitin apersonalcapacity,that greatly contributed to the progressive is to say, they do not represent partic- constitution of a shared corporate ular national interests; they take to- culture. gether the decisions best suited to As an example, within the Inter- the overall situation in EMU. national Relations Committee, issues The smooth functioning of the scheduled for discussion by relevant Governing Council, inter alia through international and European institu- its bimonthly meetings, helped make tions or fora (International Monetary the multi-cultural dimension of the Fund — IMF, G-7, G-10, G-20, Finan- Eurosystem strength. In this deci- cial Stability Forum — FSF, Economic sion-making body, common views and Financial Committee — EFC, are formed not only on monetary pol- etc.) are prepared with all Eurosystem icy, but also on many other issues of participants.Thisallowsthefullbodyof relevance for a central bank or linked the Eurosystem to build its positions on to the additional tasks laid down by the a comprehensive analysis and to show Treaty. These common views estab- a great cohesiveness in international lished within the Council through organisations and fora.

143 Jean-Claude Trichet

The Concrete Benefits Resulting from Furthermore, the euro constitutes This Original Set-Up a major reference currency for ex- Success in Termsof Credibility and Efficiency change rate regimes adopted by third The Eurosystem has inherited a legacy countries. Over 50 countries in the of credibility and expertise from its world, mainly in Europe and Africa, constitutive NCBs. The introduction of are managing exchange rate arrange- euro banknotes and coins on 1 January ments that include a reference to the 2002 has been the last step of a euro. The intensive trade and financial now more-than-twenty-year process links with the euro area are the main of monetary integration. This unique factors behind this choice. Of course, and highly symbolic event for Europe the adoption of a euro-based exchange can be considered as an outstanding rate arrangement by a non-EU country achievement. The way the cash change- is a unilateral decision, and does not over has been successfully handled, involve any commitment from the thanks in particular to the efficiency Eurosystem. of the monetary team of Europe, The internationalisation of the euro had, for sure, a strong positive impact might develop further, thanks to an on the image of the Eurosystem as a established track record of the Euro- whole. system with reference to its primary As regard France, the early change- objective of price stability and continu- overof non-cash payments in 2001, and ing integration of financial markets in therapid introduction of banknotes and the euro area. But the Eurosystem does coinsineuroinearly2002,provedtobe not pursue the internationalisation of a success entirely in line with the sce- the euro as an independent policy goal: narios devised by Banque de France in this implies that it neither fosters nor close consultation with all the involved hinders this process. parties (the banking sector, cash-in- transit companies, the Police and the A Successful Technical Framework, Army, retailers, companies and con- as Highlighted by the Smooth sumers). It has been the same all over Functioning of the Monetary Policy Europe. Framework and the Operational The internationalisation of the euro Efficiency also illustrates the success of the Euro- Prior to the launch of euro banknotes pean monetary team in terms of cred- andcoinsin2002,thelaunchoftheeuro ibility. on the financial markets, on 1 January The euro has become a major cur- 1999, has also been an indisputable rencyintheworld.Asanofficialreserve success from a technical point of view. currency, it is the second most widely In this respect, three points are worth used. As a bond issuance currency, ac- mentioning: cording to the most recent statistics — the monetary policy framework con- from the Bank for International Settle- tains a wide set of instruments ments (BIS), the euro has played a sub- chosen with a view to observing stantial role since the end of 1998 and the principles of market orienta- accounted for around 35% of total is- tion, equal treatment, simplicity, suance in 2001. The share of the euro in and transparency.The decentralisa- international bank assets has also in- tion of the operations has undoubt- creased significantly over the past edly contributed to the smooth two years. functioning of the framework.

144 Jean-Claude Trichet

Maintaining a close contact be- The Flexibility tween commercial banks and their of Its Set-Up Allows the national central banks has helped European Monetary Team the financial markets to quickly to Address Current adopt the harmonised practices re- and Future Challenges lating to open market operations, Financial Stability eligible collateral for credit opera- A Growing Challenge tions and minimum reserve sys- Like every modern and independent tems; central bank, the European monetary — operational efficiency is highlighted team has to fulfil two main functions: by the precise adjustment of bank- firstly, ensuring price stability, a key ing liquidity and effective steering condition for sustained growth, and of short-term interest rates. The secondly, preserving financial stability, Eurosystem has demonstrated this a growing chal- efficiency, in the days after the lenge in a con- tragic events of 11 September text of globalisa- 2001, by acting quickly and by en- tion of the world suring a smooth and orderly func- economy, of am- tioning of the European financial plification of fi- markets; nancial cycles, — security is provided by the proce- of instant access dures and systems implemented, to information. both for the execution of interbank I insist on the highly complementary transactions, and vis-a‘-vis large- nature of these two objectives: price value payments. It is reinforced stability is the bedrock on which finan- by the decentralised set-up. In par- cial stability is built. ticular, thanks to the setting up of Maintaining financial stability the Target system for the real-time might be considered as a fairly complex transfer of large-value payments task nowadays. Indeed, globalisation throughout the euro area and in and financial integration have signifi- other EU countries, the inter-bank cantly contributed to improving over- market became highly integrated. all economic efficiency, by allowing The credibility of the European a more optimal allocation of resour- monetary team and of the single mon- ces. However, experience over the last etary policy, the successful changeover decade suggests that they also have to the euro are major achievements. tended to amplify financial cycles They certainly demonstrated the effi- relative to business cycles, which cient functioning of EMU and of the may in some circumstances have led European economic and financial insti- to somewhat erratic developments. tutional framework. Those are strong I would also like to mention the rapid assets, which will help us to deal with emergence of the new economy two main challenges: financial stability bubble in 1999 and early 2000, which andtheaccessionofnewMemberStates was followed by a series of sharp to the EU. corrections. As a result, financial authorities, and, among them, central banks, have been confronted with boom-bust episodes, which must be carefully monitored, since they could

145 Jean-Claude Trichet

affect global monetary and financial tems, and at least for some of them, stability. to the safe and efficient functioning The tragic events of 11 September of securities clearing and settle- 2001 and their impact on the financial ment systems. markets have recently reinforced con- The present set-up of the European cerns over financial stability. The fight monetary team is appropriate to tackle against the potential abuse of the finan- the changes triggered by the current cial system for the financing of terror- financial trends and the introduction ism has received top priority on inter- of the euro. Their key position allows national and European agendas. The central banks to capitalise on the infor- international community is stepping mation-related synergies between up its efforts to hunt down money used supervisory tasks and core central by organised crime and terrorism. banking functions. Coupled with extensive supervisory responsibilities of NCBs in domestic markets, and with reinforcedco-operationatanarea-wide level, their traditional focus on sys- temicriskputstheminastrongposition to assess the potential impact of disturbances in domestic or international financial markets. Beyondfinancialstability,theacces- To this end, all players on the financial sion of new Member States to the EU markets should observe the rules of and to EMU is the last challenge that I international legal co-operation. wouldliketomention,butcertainlynot the least. The Adequacy of the European Monetary Teams Set-Up Enables it to Adapt Quickly Accession of New Member States to Current Financial Trends and to to the European Union and EMU Contribute to Tackling Related Challenges Attractiveness of the European Framework I would like to stress here the special Indeed, we are already working in the responsibilities of central banks as perspective of enlargement of the EU regards financial stability, due to and, at a later stage, of the euro area. their position at the heart of financial Twelve countries from central, systems: eastern and southern Europe are cur- — they contribute directly to supply- rently negotiating their accession to the ing liquidity to the economy,via the EU. According to the very demanding banking sector, and might be called calendar endorsed by the European upon to play their role of lender of Council, new accessions to the EU will last resort in exceptional circum- take place as from 1 January 2004, that stances; is to say in less than 19 months. This — because of their close and constant testifies again to the attractiveness of contact with credit institutions, the EU framework, which has provided their expertise in banking systems us with economic prosperity and polit- is indisputable; icalstabilityforhalfacentury.Whenwe — they contribute to prudential negotiated the Maastricht Treaty, we supervision and to the safe and ef- did not think at all about enlargement. ficient functioning of payment sys- History has gone very fast. And after

146 Jean-Claude Trichet

27 members, we may go up further, up team monitors the enlargement proc- to 36 members or even more. ess, and particularly the following The accession countries have ac- points, which are of particular rele- complished remarkable progress in vance for the Eurosystem and for acces- stabilising and strengthening their sion countries themselves: economies and institutions. Observing — Central bank independence is of the their recent history shows the major essence. As I said earlier, it is an in- improvements those countries have tegral part of the acquis commu- made, in hardly ten years, on the road nautaire, which is laid down, not towards convergence with the EU and only in national legislation, but the euro area. above all in the Maastricht Treaty. However, we must not forget that The effective implementation of the nominal convergence, which is re- the acquis communautaire is not quested in order to adopt the euro, must only a legal prerequisite for acces- be sustainable and therefore constitutes a sion to the EU. It also implies the medium-term objective, rather than a effective transformation of acces- short-term priority. Indeed, the EU sion countries economic frame- Treaty calls, as a prerequisite for adopt- work, which should facilitate their ing the euro, for a high degree of sus- integration into the EU and, later, tainable convergence in the fields of the euro area. In this context, it price stability, government fiscal posi- should be ensured that there is tion, stability of the exchange rate, and no discrepancy between the central long-term interest-rate levels. There- banks formal status in the legisla- fore, nominal and real convergence tion and the implementation of that should be pursued in parallel, and legislation. Independence means are not antagonistic, in the interest institutional, operational and finan- of both accessing countries and the cial independence. We consider euro area. that comprehensive concept as an Moreover, a sound and efficient bank- essential contribution to the clarity ing and financial system is essential. Sig- and the credibility of the single nificant progress has been made over monetary policy.It is of utmost im- the past few years in rehabilitating portance that all present and future the banking sector and encouraging Member States respect this eco- reorganisations and foreign ownership. nomic and institutional ground rule Progress in corporate governance, the of the European framework. enhancement of the legal and super- — I noted that many accession coun- visory frameworks that support the tries have already expressed their banking sector, and an efficient fight intention to join exchange rate against money laundering, are also mechanism II (ERM II) as soon as crucial. They are conducive to achiev- possible after EU entry. This inten- ing the macroeconomic objectives of tion is to be welcomed, as it facil- the accession countries. itates nominal and structural convergence. However, it should be Role of the Eurosystem Monetary Team clear that ERM II membership The Eurosystem, and notably the needs neither to happen immedi- Banque de France, is following the ately after EU accession in all cases, enlargement process with a great deal nor to be limited to only two years, of attention. The European monetary which is the minimum for adoption

147 Jean-Claude Trichet

of the euro. It would be misleading EuropeanmonetaryteambytheTreaty, to consider ERM II as a mere wait- both in normal and in exceptional cir- ing room before euro. On the very cumstances. Equally, the principle of contrary,ERMIIwouldallowcoun- decentralisation of operations, which tries to retain some limited ex- isthesecondprincipleguidingthefunc- change rate flexibility during the tioning of the Eurosystem, has also catching-up process. ERM II mem- proved efficient. Both principles call bership offers a meaningful, flexi- for working out, developing and per- ble but credible framework for in- manently improving a single team spi- creasing convergence with the euro rit,asinglecorporateculturewithinthe area, for tackling the challenges ECB and the NCBs throughout the full faced by accession countries on body of the Eurosystem. the road towards the adoption of Second, the currency changeover the euro, for contributing to mac- has proved that the European citizens roeconomic and exchange rate haveconfidence intheeuro, confidence stability, and for helping determine in its capacity to be a good store of the appropriate level for the even- value, confidence in its medium- and tual irrevocable fixation of parities; long-term solidity, and confidence in andthis,again,inthebestinterestof the capacity of the ECB and the Euro- candidate countries themselves. systemasawholetodeliver pricestabil- ity. This confidence is a very precious Conclusion asset. It is a very important ingredient First, the Eurosystems track record so for fostering growth through consumer far illustrates that the centralised deci- confidence and therefore consumer sion-makingoftheEurosystemhas pro- demand which is presently the main videdastrongandcoherentbasisfor the driving force behind the European exercise ofthemissions impartedtothe economy. §

148

David G. Mayes David G. Mayes Advisor to the Board, Suomen Pankki1)

Comments on the Theme

The Eurosystem:

The European Monetary Team

The introduction of Economic and Monetary Union (EMU), the single currency, the European System of Central Banks (ESCB), the Eurosystem and the European Central Bank (ECB) has been a fascinating experience and the process continues as the EU is enlarged and the single market for financial services becomes more of a reality. It is rare to get the opportunity to be involvedinthedesigning,mouldingand implementation of monetary institutions on such a scale. Normally, even if the opportunity to break the mould occurs, as with the reform process in NewZealand,itisusuallyinthecontext of a specific national history and culture, not one that runs across a whole set of different experiences and traditional approaches. While the idea that EMU in Europe and the Eurosystem is in important senses unique can no doubt be overdone, the novelty of the enterprise is notable. The basic

1 The views expressed here are purely personal and intended to stimulate discussion. David G. Mayes

ingredients of monetary policy, the 1 Labelling the Contents provision of a currency and the effi- There is a temptation to look towards ciency and stability of the financial sys- parallels for what has been and can be tem are common across countries. achieved in order to make assessments However, beyond that, central banks of the ESCB and its components. The can vary enormously in their require- obvious places to look are at other cen- ments to regulate banks, operate che- tral banks covering large and heteroge- que clearing and settlement systems neous regions or at other European in- etc. Nevertheless, having not merely stitutionsthatcover thesameregionbut to run across a variety of traditions for different functions. In practice, the and languages and bring together a first comparison then focuses on the set of institutions that are used to run- U.S., as the Peoples Republic of China, ning policy in their own way is no mean Russia and India, while in some cases larger in population, are rather too different in the services being undertaken toprovideausefulbasis.However,even the U.S. offers only limited compara- bility as the region as a whole has had a rather closer federation for over two hundred years and while the central bank itself did not get its present form for the first 140 years of the U.S. it has task. The juxtaposition of the words nevertheless been operating in a similar competition and integration in mode for over 70 years. Even though the title of the conference is apt. Forg- U.S. financial markets have remained ing a new set of institutions and oper- relatively fragmented, given the regu- ating cultures involves both market and latory role of the states, compared to non-market forces. Sometimes these the individual European countries, the forces pull in the same direction and common language, single currency and other occasions they contradict each largely similar structure makes it much other. more homogeneous. European models In these brief remarks I look at just for operating single policies are equally three aspects of the evolution of the difficult to apply, ranging from compe- Eurosystem. In the first section I argue tition policy operated by the Commis- that much of the basis for assessment sion, through special agencies and the tends to be rather weak, as it relies European Court of Justice, to joint for comparison on organisations and action by the Council of Ministers. concepts that are superficially similar Looking for a basis for comparison but fundamentally different. In the is thus likely to be a relatively fruitless second I explore the implication of task. If the Federal Reserve in the U.S. the core national element in the were being set up today it would no system for its structure and develop- doubt look rather different. Technol- ment. Finally, I briefly look forward ogyhasenormouslyalteredtherequire- to how the evolution may develop as ments for structures to say nothing of we get beyond the phase of complet- the movements in populations and eco- ing the internal market for financial nomic activity over the period. The services and expanding the system to Federal Reserve Bank of San Francisco, admit new members. for example, now covers 20% of the

152 David G. Mayes

U.S. population and 35% of the land centralised than the Federal Reserve area. It might therefore seem possible and the hierarchy of responsibility is to operate with 5 districts rather than inverted. It is the Governing Council the current 12. The Federal Reserve that has the ultimate responsibility Banks are much more similar in size not the Executive Board of the ECB. than the Eurosystem banks, varying Yet the organisation supporting the only by a factor of two despite much system has been labelled as a Bank. greater disparities in GDP and popula- The Eurosystem has a Monetary Policy tion — excluding the Federal Reserve Committee but it is not the body that Bank of New York, which has greater decides monetary policy. The confu- responsibilities. Even if we treat sion of labels extends to the head of Luxembourg as an outlier, the remain- the organisation, who is the Chairman ing Eurosystem banks vary in size by a of the Board in the U.S. but the Pres- factor of 20. There are clearly over- ident in the ECB. heads in running any central bank These are of and anyone designing a system from course only la- a blank sheet of paper would be balanc- bels and once ing up these initial costs against the dis- the tasks are de- advantages of great size, which may not scribed the posi- be clearly expressed in terms of central tion is clear. bankers or dollar costs per head of Theydohowever population. provide implica- There has also been somewhat of a tionsforoutsidersforwhatdoeshappen confusion of labels for the European or for what is intended to happen as monetary system. The U.S. seems to time passes, which may turn out to have a fairly neat and descriptive set be quite mistaken if assessments are of labels. The component banks in based on the use of the same labels the system are labelled Federal Reserve in their own countries. Banks. The Board of Governors of the FederalReserveSysteminWashington, 2TheCoreNational which is responsible for the running of Ingredient thesystem,hasnofurther namebeyond While the execution of the require- that. Thus the staff who work in Wash- ments for the ESCB laid down in the ington for the Board do not belong to Treaty is largely a technical matter, some separate institution. Monetary the EMU project remains at the heart policy is decided by a defined commit- of national policy-making, as it involves tee,theFederalOpenMarketCommit- fiscal and monetary policy, which are tee (FOMC), comprising the gover- two of the core activities of govern- nors and Federal Reserve Bank presi- ment. The Member States can be ex- dents. The Eurosystem by contrast is pected to guard their interests with not evenalegal entity but adescription. considerable care. Thus while there Inpartthishasoccurredbecausethereis may be no difficulty for governments not an exact match between the mem- (or indeed for the local electorate) with bers of the European System of Central theideasthatmonetarypolicyshouldbe Banks and those participating in the aimed a price stability for the euro area euroarea.However,ithasalsooccurred as a whole, that purely national con- because of the creation of the ECB in cerns are not relevant to the discussion Frankfurt.TheEurosystemismuchless and that the national central bank

153 David G. Mayes

governors participate in the decision- around thirty would be a recipe for dif- making in a personal capacity, not as ficulty.Itisessential to grasp such prob- a national representative, it would be lems.TheEuropeanUnionispronelike a very difficult matter to persuade any political entity to slogans, such as the Member States to give up a seat strength through diversity. However, at the table. in practice diversity does indeed have a One of the interesting features of lot to offer,not least because each ofthe the ESCB is that each Member State individual states have their own frame- is treated equally, with the exception work of laws, traditions of doing busi- of issues relating to the capital sub- ness, financial institutions and so on. scribed on the basis of GDP and pop- Diversity in delivery sounds almost in- ulation. Clearly since many matters evitable even with a single monetary are purely technical and the members policy and a single framework of Euro- of the Govern- pean law applying to financial markets. ing Council do This same diversity in behaviour and not act in a rep- ideas provides important opportunities resentative ca- for more rapid learning in other areas pacity this is of economic policy and is explicitly not a prima facie built into the Employment Guidelines problem. How- forexample.Itisdifficulttoseewhythe ever, one could same should not be true of monetary envisage circum- policy and experience in the commit- stances where disagreement could tees of the Eurosystem tends to bear prove awkward in a system where a this out. simple majority can decide matters. Perhaps one should not look at the It is therefore no surprise that the Gov- central banking system as an entity but erning Council tries to act by consen- assetoffunctions thatcanbedifferently sus. Although consensus is asomewhat organised. The members of the Euro- ill-defined word its practical definition system, between them, have more than is clearly that any minority decides not adequate expertise to tackle the prob- topursueitsclaims.Thisprovidesaneat lems that assail them at the leading edge balancewith everybodyhaving their say of international skills. It is largely a and not overriding deeply held dissent- matterofchoicebasedonstandardbusi- ing views. It is, however, an illusion to ness principles as to how they should believe that monetary policy decisions organise themselves to tackle any cannotbetakenwithallnecessaryspeed particular problem area. In an elec- in this environment. An examination of tronic world many activities can be FOMC voting records shows that most undertaken without regard to location. proposals are passed without dissent Indeed thereis no requirement for peo- and that when not all parties agree, ple to be stationary with respect to the the number of dissenters is usually very ground in order to undertake many small. Just because each individual has tasks including communication. The one vote it does not mean that each ar- Eurosystem can thus act as a single gument is equally persuasive. organisation without having a single Nevertheless, in many respects it site. There is a natural assumption that might seem that trying to create a cen- increasing integration implies increas- tral banking institution with at least a ing concentration, however, in a net- dozen components and potentially work there is no such requirement.

154 David G. Mayes

Indeed, as people become more used On the contrary a route forward is to working with each other increased for them to act as policy organisations. decentralisation is possible, as those While substantial amounts of the pro- working with the internet have readily vision of the information used in the discovered. policy-making process can be out- In very crude terms it is possible to sourced, the digesting and analysing divide central banks into their policy of the implications of the information is functions and their service activities. inherently a core function. The respon- In the U.S. the Federal Reserve Banks sibility for financial stability requires a are dominated (in personnel terms) by close contact with the local financial these service activities. These activities system. Similarly the framework for involve the provision of currency, pay- monetary policy involves a close rela- ments systems and market operations, tionship with the national government, which in turn can be divided between the media and reserves management and monetary the local popula- policy implementation. Some central tion. The links banks are also supervisors of the finan- with the popula- cial system and all have some responsi- tion are particu- bilities for the integrity of the financial larly difficult to system as awhole, including some form exercise across of lender of last resort function. Some borders and in- of these service functions are location deed large coun- specific but the requirement of central triesfindthat they needalocalpresence banks to have branches to handle cur- intheir regions.TheBankofCanadafor rency for example is negligible. There example has reopened some provincial are none in New Zealand for instance. offices so that it can remain more in In particular, the South Island, which touch with local sentiments. An inde- comprises the majority of the land area pendentcentral bankinevitablyfaces an and is larger than most of Eurosystem issue of legitimacy. Not only is its staff Member States including Greece, has indirectly appointed but the route to no branch of the central bank at all. affecting it if it does not appear to Much of the process of issuing and be fulfilling its mandate is also, delib- returning currency can be efficiently erately, indirect. It is one thing to be contracted to the commercial banks. independent but quite another to be Similarly the private sector can run distant, where distance in this sense much of the payment system including reflects stance and perceptions not operating the RTGS (Real-Time Gross locational separation. Many central Settlement) system. In practice much banks make considerable efforts to of the reserves management can be run be visible in local areas despite the by counterparties and central banks absence of local offices, through partic- may in fact have little of the concept ipation in local events, direct commu- of a bank about them. There is certainly nication in the local papers and radio. no necessity for them to be the govern- This local dialogue can be important in mentsbank. Hence thereis no require- bothdirectionsasithelpsthebankinthe ment to follow the U.S. model and see implementation of policy. Greater the national central banks in the Euro- understanding of the bank can help system concentrating on being service reinforce expectations and hence reorganisations. duce the costs of monetary policy.

155 David G. Mayes

It also helps in the detection of financial by academic experts, market practi- trendsandmisperceptionsinadvanceof tioners and of course through the published statistics or more formal media, parliaments and government. survey indicators. Central banks do not have a monopoly However, this still implies that it is of knowledge and in an uncertainworld the local issues that are the driver of want to see as much of the difficulties the policy as opposed to a variety of with policy strategies spelt out in view and analysis contributing to advance. better policy. It is this latter which There are some difficulties if na- is a particular strength of the Euro- tional parliaments and governments system. It is of course a coincidence are not matched by national central that there are twelve Federal Reserve banks. The Finnish parliament debates Banks and twelve national central the conduct of monetary policy on a regular basis and the Bank of Finland has to respond to that debate in person in parliament. It has to explain the impact of Eurosystem policy in the national context. The period since the start of Stage 3 of EMU in Finland has been characterised by less price stability than in the preceding years and clearly less than that previously banks in the Eurosystem but quite a required under the Bank of Finlands number of organisations are required inflation target. The appropriate re- to cover the range of plausible views sponse requires not an appeal to the in a varied area. Concentrating those greater European good but to the con- viewsbeforehandthroughasingleroute text of the Finnish economy. and then having a single voice present the range of views is much less effective 3 Characteristics than having the proponents promote of Maturity their viewsinthedecision-makingbody One of the key features of the Euro- itself. However objective and profes- system is that it is an evolving organi- sional the presenter, it is unlikely that sation. The first few years have been second-hand views are as coherently dominated by trying to work out argued. This is particularly true when how it should be organised, what sys- a compromise has to be brokered. Even tems to put in place and learninghowto in a court of law, where the judge work with each other. Now with the summarises the evidence and argu- system up and running and the notes ments for a jury, the jury has already and coin in circulation the pace will heard the arguments put directly by slow,although thereis still the potential the parties involved. of enlargement to continue to compli- It is thus not surprising that the par- cate procedures. Elsewhere the process ticipating banks in the Eurosystem have of financial integration, the impending beenincreasing rather than diminishing need to implement some form of Basel their policy and research functions. It is II and respond to our increasing under- not simply that they each want their standing of financial (in)stability and day in court but that they want to the consequential reorganisation of see the issues debated more widely the regulatory and supervisory struc-

156 David G. Mayes

tureinEuropewillcontinuetogenerate this regard, as long as it is associated change for some time to come. It will with pulling together rather than with therefore be a while yet before the sporting events. system reaches even dynamic equili- Even if the issue of labelling can be brium.Over thatperiodnodoubtmany solved, a real challenge remains on of the national central banks will shrink manyfrontsforoutsiderstounderstand in size as the activities become more the Eurosystem. The Eurosystem and efficient or are hived off. The Bank the media are at last beginning to come ofFinlandcertainlyexpectstobe mark- totermswiththefactthatdisagreement edly smaller five to eight years ahead. over many issues including monetary However this does not of itself imply policy is not only inevitable, it is the any centralisation of activity, indeed sign of a healthy and vibrant organisa- thegeneralexperienceoffinancialmar- tion, as is clear from the example of kets would suggest that while activities the U.S. Federal Reserve. The media may become more concentrated or has now learnt how to distinguish offi- specialised, the trend is for the entire cial statements and personal remarks. organisation to shrink including head The academic policy debate has taken offices as productivity improvements off and the rapid increase in research run ahead of output growth. An effi- publications is helping our understand- cient network organisation is actually ing of the choices available and of how likely to be hollower. to handle the uncertainty that inevita- It would be helpful to find a char- bly faces the decisionmaker in mone- acterisation of the Eurosystem in this tary policy. The macroeconomic de- period of change that was apt, accurate bate in the U.S. has been impressive and generally acceptable, particularly for a long time. While it is not yet to those involved. Almost all analogies mirrored in Europe, the balance is such as hubs and spokes are likely to changing. Ironically as the organisation be misdescriptions. Use of the word matures and becomes one of the insti- centre is likely to please almost no- tutions of the European map its profile body. The challenge is to come up with will tend to diminish as its reputation some more neutral description that grows.Effectivemonetaryandfinancial makes it clear that the parts of the policy is not a talking point. In those system are operating (harmoniously) circumstances central bankers only together in a variety of interlocking become a focus of attention when roles towards a singly defined set of ob- something goes wrong. § jectives. The word team is helpful in

157 Richard Portes Richard Portes Professor, London Business School President, Centre for Economic Policy Research (CEPR)

Comments on Jean-Claude Trichet,

The Eurosystem:

The European Monetary Team

Itisapleasureandachallengetodiscuss, perhaps more accurately to complement Jean-Claude Trichets eloquent presentation of the European Central Bank (ECB) and the European System of Central Banks (ESCB). The difference between the two institutions is of course central to some of the issues we consider. As did Governor Trichet, Ishallcoverawiderange:generalstruc- tural questions, the functions of the ECB, and the political context in which it operates. Many academics who supported monetary union, myself included, voiced early concerns on two grounds related to the institutional structure of Economic and Monetary Union (EMU): the potential for conflict between the ECB and national central banks (NCBs) and the risk that the decentralised structure of financial super- visioncouldnotcopewithanepisodeof serious financial distress.1) Fortunately, we were overly pessimistic. 1 See, for example, several papers in the Special Issue of Economic Policy on EMU (Number 26, April 1998), and Monitoring the European Central Bank 1 (Unsafe at any speed?), CEPR, November 1998. Richard Portes

On the first point, we were perhaps inhibitthesystemfromreactingquickly too influenced by the historical exam- enough.1) I do not agree that Septem- ple of the Federal Reserve System — ber11wasaserioustest,fromthispoint possibly the use of System in both of view.It did indeed require fast action names was misleading. It took decades to stabilise financial markets, but there for the Fed to work out a satisfactory, was no need to make bailout decisions, non-conflictual relationship between no concern about systemic risk arising the Board in Washington and the re- from illiquidity or insolvency of key gional Federal Reserve Banks. It has financial institutions. September 11 been a pleasant surprise to observe did not raise the issues of cross-border how well President Duisenberg and coordination or the division of respon- his colleagues on the Frankfurt-based sibility between the ECB and NCBs and Executive Board have defused the fiscal authorities. In fact, we have not yet seen any serious threat to a bank with euro-area systemic significance. One might like to believe that on both points, policy-makers just reacted effectively to the concerns we had expressed. That would be a welcome further justification for academic research and the free expression of critical aca- demicviews!Analternativeorcomple- natural tensions between the Euro- mentary explanation is that on neither tower and the NCBs. There has been point has the system really been stress- an apparently high degree of consensus tested yet. We have not seen strong in decision-making as well as a creative asymmetric shocks or an extended, use of the inbuilt, structural competi- deep recession, so monetary policy- tive relationships. Policies have demon- making has been operating in a rela- strably been set at the euro area level, tively benign environment. And we rather than as a compromise among have not had a European LTCM or different national interests. And the Continental Illinois, although that NCBshavedoneratherwellinjustifying may indeed be a consequence of very their continued existence (though per- effective financial supervision at the haps not the maintenance of their pre- national level. vious staffing levels) as sources of local The underlying structural issues re- knowledge, research, and decentral- main.Therearewell-knowndifficulties ised implementation of policies. in managing a network structure, and Nor havewe seen any cases in which here they are not compensated by any theESCBhasprovedunabletodealwith clear network externalities or econo- financial instability. The concern here mies of scale. Moreover, this is not a was that in a crisis, one or more pure networkof individual nodes, none major financial institutions might re- with any special status. There is a hub, quire a lender-of-last-resort (LOLR) the ECB, and spokes, the NCBs; and response, and that the unclear alloca- some of the latter are more equal than tion of LOLR responsibilities might others. Theory is not much help here.

1 SeePortes,R.(2001).TheEuropean ContributiontoInternational FinancialStability.CEPRDiscussion Paper No.2956, August.

160 Richard Portes

We do have a theory of teams, but it is largement.1) The composition and based on the incentives that team mem- voting structure of the ECB could bershavetoshareinformationanduseit quickly become unwieldy and its flex- effectively. Here the incentives are at ibility overly constrained. The Nice best fuzzy and there are conflicts be- outcome specified that the ECB should tweentheneedtogenerateanduselocal itself come forward with a proposal to knowledge (but distortions in aggre- deal with this, or failing that, the gating it) and the desirability of cen- Commission should offer its proposal. tralising information and decision- Neither has spoken. Enlargement, we making. must hope, will proceed according to The NCBs themselves differ signifi- the agreed timetable and bring in new cantly. The obvious issue is that they members in 2004. It would be unwise comefromcountriesofverywidelydif- to delay the discussions and nego- fering economic weight and character- tiations on ECB istics — from Germany to Luxembourg, voting structures a much wider range than across U.S. until then, or in- Federal Reserve regions. Yet the rule deed until the is one governor, one vote. In practice, ratification of ofcourse,wecanexpectthatdiscussion the Nice Treaty and consensus formation will incorpo- or the outcome rate informal weighting, just as the ag- of the constitu- gregate euro-area data on which deci- tional conven- sions are based incorporate formal tion. Academics have of course put weighting. Still, there are other differ- several options on the table, such as ences as well — in research capacities or a monetary policy committee along specialisations, for example (an issue of the lines of the Bank of England Mon- great interest to academics), which etary Policy Committee — perhaps the affect the perspectives and authority presence of independent members, that individual governors bring to including academics, enhances its ap- the discussions. Yet there is more sym- peal. It is improbable, however, that metry than in the Federal Reserve any proposal transferring monetary System, insofar as no euro-area NCB policy authority away from NCB gov- has a role analogous to the money mar- ernors would emerge from the ECB. ket centre status of the New York Fed. But would they prefer a rotation There may be political constraints that scheme, a constituency scheme, or preclude the emergence of any single what? They should tell us sooner rather NCB with this status in the euro area than later. — although U.K. entry might lead Second, a key function of both the unavoidably to a de facto role of this Frankfurt-based ECB staff and many of kind for London. the NCBs is research. We should hear Structure is intimately related to more open discussion of the justifica- function. Let me take up two points tionforNCBresearchactivities,except regarding the functions of the ECB. insofar as they might relate to national First, although current arrangements functions (financial system supervision for setting monetary policy seem se- and regulation, in particular). If there cure, they become an issue with en- is a euro-area policy — as I believe there

1 See Baldwin, R., et al. (2001). Preparing the ECB for Enlargement. CEPR Policy Paper No. 6, October.

161 Richard Portes

is —what isthe needfor national macro- can have weight. The implications economic and monetary research, ex- are clear. cept possibly for a few of the largest Second, both proponents of en- countries? Even if one posits a case hanced EU political union (especially for competition — among NCBs and in Germany) and sceptics about with the ECB — one might argue that EMU (especially of the Anglo-Amer- three or four major competitors would ican variety) have maintained that suffice. In practice, some of the smaller greater political integration is essential central banks are important contribu- to underpin a single monetary policy. tors to euro-area central bank research The arguments range from the sup- output — including, of course, our hosts posed need for a federal fiscal policy at this conference — and it would be to the problems of ensuring democratic helpful to know more about how this accountability and legitimacy for mon- work interfaces with that conducted at etary policy decisions that can some- the ECB. times be politically divisive. I disagree The two final issues I wish to raise oneconomic grounds, because national both have significant political dimen- fiscal policies, when properly run, can sions. First, I have criticised the ECB provide the necessary complement to a for its neutral stance on the interna- centralised monetary policy.But on the tional role of the euro, and more political argument, there are concrete broadly for its reticence regarding uni- counterexamples. TheEuropean Com- fied euro-area representation in inter- mission has sole competence in both national financial institutions and dis- competition policy and trade policy cussions.1) Europes influence is not — these are not domains in which the in fact enhanced by having four mem- Member States or the Parliament have bers of the G-7 and several Executive any authority. Of course the relevant Directors in the International Mone- Commissioners and their staffs do tary Fund (IMF), especially since they communicate closely with national au- seldom put common positions. It is en- thorities and Parliament, but the Com- couraging that the International Rela- mission has decision-making power. tionsCommitteeoftheESCBhasfinally And these two domains are at least agreed a European position on sover- as politically sensitive as monetary eign debt restructuring. That it does policy. Greater federalism is not re- seem to have influenced the United quired to sustain their legitimacy. States significantly, and this is reflected Nor is it required to buttress the in the April 2002 G-7 Action Plan, ECB and EMU. § shows that a common European view

1 Portes, R. The euro and the international financial system. CEPR Discussion Paper No. 2955, forthcoming in: Buti, M., and A. Sapir (eds.). EMU: Early Challenges and Long-Run Perspectives.

162

Gertrude Tumpel-Gugerell Gertrude Tumpel-Gugerell Vice Governor, Oesterreichische Nationalbank

The Role

of National Central Banks

Within the European System

of Central Banks

Introductory Statement

As Governor Trichet has already outlined in his speech national central banks (NCBs) in the European System of Central Banks have to cover a very wide range of tasks. These tasks range from preparing the analytical basis for monetary policy decisions, the participation in the decision-making process itself over to its operational implementation at the national level. NCBs are responsible for producing reliable statistical data and concise economic anal- ysesaswellasfor theprovisionofliquid- ity, banknotes and coins and the functioning of the payment system. And, above all, NCBs have to make sure that the monetary policy which is decided on the European level is well understood by national financial markets and the general public. One task which is of utmost impor- tanceandonwhichIwanttofocustoday is the contribution of NCBs in the field of financial stability and, more in Gertrude Tumpel-Gugerell

particular,the institutional structure of markets change a lot and the introduc- banking supervision in Europe. tion of the euro certainly brought in a The current banking supervisory new structural element that has to be system in Europe is essentially based reflectedintheinstitutionalsetupwhen on three pillars: it comes to financial market regulation (i) harmonization of regulations across and supervision. Europe, The adequacy of the existing ar- (ii) national regulatory powers, and rangements for prudential supervision (iii) bilateral and multilateral coopera- and the safeguarding of financial stabil- tion. ity in the European Union have recently In line with the principle of home been assessed in two reports produced country supervision, every bank has under the outstanding chairmanship of the right to offer its services through- HenkBrouwerfromDeNederlandsche outtheEuropean Bank. The outcome of the analysis was Union, the only that the current institutional system legal require- based on national responsibility is ment being a sin- appropriate, but that there is a need gle license, the to strengthen cross-border and cross- so-called Euro- sectoral cooperation between super- pean passport. visors. This is to enhance convergence In order to cover of supervisory practices and to rein- the cross-border force collaboration between super- activities, bilateral cooperation be- visors and central banks. tween home and host country super- Onlyrecentlyanewdebatehasbeen visory authorities — within and outside launched by a letter written jointly by the EU — is regulated by means of a va- the German and British Ministers of riety of memoranda of understanding. Finance. The aim of this letter is to The above-mentioned arrange- streamline the Community financial ments are complemented by coopera- regulatory process in analogy to the tion platforms at the multilateral level. proposals made by the group of wise Let me deal briefly with just a few of men, led by Alexandre Lamfalussy, in them: the field of securities regulation. The The Eurosystem body responsible burden of detailed and cumbersome for banking supervisory cooperation regulation at the Community level shall is the Banking Supervision Committee be removed by delegating rule-making (BSC),whichwassetupbytheECBand powers to a committee of regulators iscomposedofseniorrepresentativesof and by promoting consistent imple- central banks and banking supervisory mentation at the national level through authorities of all 15 EU Member States. a committee of supervisors. Extending Another body on the level of the Euro- such amechanism to banking and insur- pean Union involved in banking regu- ance would probably also produce tan- lationistheBankingAdvisoryCommit- giblebenefits,thoughdifferencesexist- tee (BAC), which is made up of repre- ing between the three sectors should sentatives of the banking supervisory also be taken into account. authorities, finance ministries and cen- The Council of Ministers has de- tral banks. cided to have the institutional structure Let me now turn to the European of financial supervision reformed. A fi- debate currently underway. Financial nal report shall be delivered in Septem-

166 Gertrude Tumpel-Gugerell

ber thisyear.Myopinioninthisregardis central banks knowledge of the that an improvement in the decision national banking industry to the link making process is always welcome. between micro- and macro financial However, by reforming the system stability and the issue of crisis manage- two principles should be respected: ment. My warning would therefore (i) The involvement of all those who be to very carefully analyze different play a role in preserving financial possible options before rearranging stability and improving financial the institutional framework of financial regulation in the respective com- supervision in Europe — leaving NCBs mittees must be ensured: This aside can certainly not lead to an opti- means ministries of finance, central mal solution. What is at stake is the banks and supervisors shall all be stability of the European financial represented in new institutional market — and this should not become formats. (ii) One should not re-invent the wheel, but rather start from existing structures and try to improve their functioning. As the Brouwer report concluded: what is needed is not the creation of new institutions, but rather an improvement ofthecooperationbetweenexisting bodies. subject to short-sighted political war The first drafts of the reform ideas games. that are circulated currently appear to The contribution of NCBs to the go into the wrong direction: NCBs stability of financial markets is one of shall be excluded both from decision- the most important tasks to be met making and from advisory bodies with in the future, but it is only one task respect to banking regulation and of NCBs in the European System of supervision. The only forum where Central Banks among others, as was NCBs shall be represented would be alreadypointed out.DeNederlandsche a very large forum on financial stability Bank is certainly one of the leading of no particular institutional or deci- NCBs with respect to the professional sional importance. conduct of its supervisory functions in Weare still in the middle of the dis- the banking sector. I am therefore very cussionprocess,butIwouldliketourge glad and honored to announce Arnout not to underestimate the importance of Wellink, the President of De Neder- having central banks on board in the landsche Bank, who is also member area of financial supervision. The rea- of the Governing Council of the sons for this range from the profound ECB, as our next speaker. §

167 Arnout H. E. M. Wellink Arnout H. E. M. Wellink President, De Nederlandsche Bank Bryan Chapple Philipp Maier De Nederlandsche Bank

The Role of National Central Banks

Within the European System

of Central Banks:

The Example of De Nederlandsche Bank

Introduction Monetary policy is one of the few areas of European integration where there is a genuinely supranational policy. In considering the role of central banks in general, the main focus of authors is typically on monetary policy (e.g. Fischer, 1995). The same focus is evident among those who have considered the role of national central banks (NCBs) within the European System of Central Banks (ESCB).1) Seen from this perspective, the transfer of monetary policy sovereignty from individual countries to the European level since 1999 has raised questions about the ongoing role of national central banks. However, central banks also have a number of other tasks. This paper takes

1 See, for example, De Nederlandsche Bank (2000) and Goodfriend (1999). For convenience, and consistency with the Treaty, the paper refers to the ESCB (which includes all EU central banks), even though some EU countries have not adopted the euro. Arnout H. E. M. Wellink

a broader perspective and considers the most of them are only likely in the long position of NCBs in the context of the term, by which we mean more than a ESCB with respect to the full range of generation. tasks carried out. The paper continues in section 2 We set out a number of criteria to with a discussion of the criteria pro- evaluate the division of ESCB tasks, posed for evaluating the distribution review the current assignment of tasks of central banking tasks within the and consider how they are likely to European context. Section 3 discusses change in the future. Moreover, the current role of NCBs within the NCBs also fulfil non-ESCB tasks. For ESCB and the possible future evolution De Nederlandsche Bank (DNB), these of these tasks. Section 4 discusses the non-ESCB tasks span a wide range of non-ESCB tasks that DNB is respon- policy areas that are indirectly related sible for and section 5 summarises the main findings.

2 A Framework to Analyse the Division of Tasks Ideally,a normative literature on central banking would provide guidance on what central banks should be doing, including (i) the tasks the Eurosystem should be toourESCBresponsibilitiesandoccupy fulfilling and around 50% of staff.1) These tasks are (ii) an optimal division of these tasks not specified by the Maastricht Treaty, between a centre (the ECB) and na- but are agreed upon with the respective tional central banks. Such a norma- national governments. The role of tive literature on central banking is, NCBs in carrying out these other however,lacking.Instead,weestab- tasks is discussed, using the example lish some criteria against which the of DNB. current division of tasks can be as- To preview the conclusions, our sessed. In the European context, current system is likely to continue the Maastricht Treaty forms the ba- to evolve over coming years as we sis for the current assignment of gain experience with monetary union tasks. It is based on the idea that and efficiency gains are exploited. As the ESCB as a system shares a num- long as nation states remain in exis- ber of tasks. Given this common tence,itseemsunlikely,for variousrea- responsibility, all participating sons, that the role of national central central banks — be it the ECB or banks will alter completely.2) Although NCBs — have to be involved in all major changes in the way in which the relevant policy areas. In addition, system is organised can be expected, all participating central banks have

1 Inthisregard,wealsocounttaskssuchasbankingsupervisionasindirectlyrelatedtomonetarypolicy,asisexplainedbelow in section 4.2. Note, however, that not all NCBs perform this task. 2 The conference theme concerns a Europe of regions. Regions can obviously be defined in different ways. Regions which are economically integrated need not necessarily correspond to the geographic boundaries of nation states (which form political regions). However, NCBs are linked to nation states. Given that, the regional analysis in this paper is linked to political regions.

170 Arnout H. E. M. Wellink

tohavethemeanstofulfilthesetasks treaty, unlike other central banks for which they are collectively re- where independence can be over- sponsible. Within this overriding turned byaparliamentary majority, framework, the Treaty refers to accountability arrangements are two broad principles: first, the idea particularlyimportantasacounter- of subsidiarity, i.e. the current part to this independence. The lack system was created out of respect of credible accountability arrange- for national sovereignty within ments could undermine public and some basic rules set by the EU, political confidence in the mone- and not on the basis of better co- tary union and therefore the effec- ordination or centralisation per tiveness of monetary policy. se. This also reflects the hetero- — One of the key ingredients for geneity of the Member States. Con- monetary policy is the accurate sequently, any task should be per- assessment of market sentiment formed at the lowest regional level and expectations, and of economic possible and there are limits on the developments. A system of NCBs extent to which national tasks can spread across Europe can poten- be centralised. Second, the Treaty tiallyprovideabetterpictureofsen- emphasises the idea of efficiency, timent within the entire euro area i.e.wherecanthetaskbeeffectively than a single, centralised body. undertaken at the least cost?1) — NCBs are important channels for There is a relationship between ESCB communication, as they both principles, in that subsidiarity are more closely linked to their na- (and the benefits that comewith it — tional audiences. They are more see below) should prevail, but gross aware of national traditions, cul- inefficiencies should be prevented tures and histories, and can there- or eliminated. fore potentially better tailor com- The Maastricht Treaty specifies the munication to the needs of the local tasks to be carried out by the system, population. Moreover, it may be but in most cases is not specific about particularly reassuring for the which part of the system should under- publicincountrieswhereeconomic take them. The following sections con- developments diverge from the sider the extent to which the allocation euro area average if their NCB of tasks conforms with the subsidiarity governor is seen to participate in and efficiency criteria proposed. The the formulation of the single mon- concept of effectiveness subsumed in etary policy, even though the gov- the efficiency principle includes, inter ernorsdecisions are based on euro- alia, the following aspects:2) wide considerations. These na- — A system of checks and balances tional governors are then better form part of ensuring the accountable to explain the consequences ability of independent central of European monetary policy. banks.BecausetheESCBindepend- The above-mentioned framework enceiscontainedinaninternational can be used to assess the allocation

1 This principle has also been stressed by the ECB. See European Central Bank (1999), p. 57. A framework based on similar considerations has also been proposed for the re-organisation of the Bundesbank after the adoption of the single monetary policy. See Ko‹sters et al. (2001) and Deutsche Bundesbank (1999). 2 Note that not all of the aspects of effectiveness discussed here are relevant for every task carried out by NCBs.

171 Arnout H. E. M. Wellink

of Treaty tasks between the ECB and DNB, which prior to Economic and NCBs. Throughout the analysis we Monetary Union (EMU) had main- first examine the current situation tained a fixed exchange rate vis-a‘-vis and then consider likely changes in the German mark, monetary policy the future. preparation has become more complex.Itnowrequirestheanalysisofeco- 3 The Division of ESCB nomic variables and monetary indica- Tasks Between ECB tors for the euro area as a whole.2) and NCBs Thesecurrentarrangementsareex- 3.1 Monetary Policy Decisions plicitly set out in the Treaty,so are fixed Monetarypolicy-making covers anum- for the time being. However, the com- ber of aspects. This sub-section dis- position of the Governing Council has cusses the role of NCBs in decision- been the subject of debate, with some making,inresearchactivitiesunderpin- arguing for limits on the number of ning those decisions and in the commu- NCB governors. It has been argued that nication of decisions. decreasing the numbers of national The Treaty provides that the meet- governors may increase effectiveness, ings of the ECB Governing Council since having twelve NCB governors (which formulates monetary policy) participating may exceed the optimal are to be prepared by the Executive club size for monetary policy deci- Board of the ECB. The main task of sions.3) This could make it difficult the ECB in this respect is to lay the for the Council to engage in effective groundwork for the monetary policy debates over policy decisions and decisions of the Governing Council. hamper the development of a cohesive NCB governors (together with ECB decision-making body. A further argu- Executive Board members) decide ment against including all NCB gover- on monetary policy, requiring the nors is that the Eurosystem has to guard NCBs to brief their governors (and against the perception that European this briefing has to be an interactive monetary policy could be sub-optimal process) so that they can carry out for the following reasons (e.g. Baldwin this joint responsibility. NCBs are et al., 2001): therefore involved in research and — National interests could dominate the preparation of monetary policy decision-making.4) This could be decisions.1) That is, the need to con- the case if NCBs governors regard duct independent research inter alia themselves as representing the arises from the obligation NCBs have monetary policy requirements of to fulfil their role in carrying out the theirhomecountry,rather thanbas- tasks the ESCB as a system has been ing their decisions on the euro area assigned. Certainly for NCBs such as as a whole.5)

1 NCBs are also involved in the preparation of monetary policy via their participation in the ESCB Monetary Policy Committee, which inter alia prepares the economic projections of the euro area. 2 See also De Nederlandsche Bank (2000), p. 26. 3 This holds all the more in an enlarged EMU with more than 20 Member States. 4 Berger and de Haan (2002) and Meade and Sheets (1999). 5 In fact, small, open countries have a natural inclination to make decisions on the basis of the euro area as awhole — possibly moresothanlargecountries.AstrongandsuccessfulEuropeaneconomyisofparticularimportanceforsmallermembersofthe euro area. For example, if euro area decisions were based only on Dutch circumstances, this would eventually have negative consequences for the euro area as a whole and therefore for the Netherlands.

172 Arnout H. E. M. Wellink

— If euro area countries are very het- to alternative academic paradigms: erogeneous,competingnationalin- Everyresearchdepartmentisatrisk terests could offset one another and of developing a dominant in-house result in a bias against changing view that is intolerant of challenges interest rates. This could make it to the local orthodoxy. It would be difficult to reach a decision to unfortunatefor thecitizensofEuroland change interest rates in the Govern- if all Council members drank only ing Council.1) from the same fount of economic wis- Despite the above arguments, we dom.2) Finally, as noted above, mon- consider a Governing Council without etary policy requires the accurate as- adequate representation of NCB gover- sessment of market sentiments and ex- nors as unwarranted for a number of pectations. Here NCB members of the reasons. First of all, NCB members Governing Council play a vital role, as of the Governing Council do not consider themselves to be representatives of their home country. Second, their removal runs counter tothecriteriaset out in section 2. In particular, it conflicts with the notion they have a regional information that all NCBs must contribute to the advantage and can — helped by the fact maintenance of price stability and that they have at their disposal estab- the other tasks of the ESCB. Broad lished organisations — typically provide participation in decision-making is a a better assessment of the situation in part of the checks and balances that their home country.3) This local knowl- are a necessary counterpart to the edge is also important in the commu- independence of the ESCB. Third, nicationofmonetarypolicydecisionsto the quality of policy debates in the Gov- the public. Here there is a role to be erning Council could be adversely af- played by national central banks, as fected if the number of NCB governors communication is facilitated by a better was to be reduced. The argument runs knowledge of languages, regional insti- as follows: economic theory suggests tutions and particular circumstances. that competition typically leads to In summary, monetary policy deci- higherefficiency.Competitive pressure sion-makingwithintheECBGoverning on the centre (ECB) regarding research Council should therefore be character- and the preparation of monetary policy ised by a team effort with a strong, but decisions is provided by the NCBs to not dominant centre. Interest rate ensure that monetary policy remains decisions are based on input provided innovative and e.g. incorporates the by both the ECB and NCBs. At thesame latest academic insights. It also en- time, to ensure that the public under- sures that decision-makers are exposed stands that monetary policy is based on

1 See Aksoy et al. (2002). 2 See Buiter (1999). 3 See Goodfriend (1999).

173 Arnout H. E. M. Wellink

the entire euro area, NCBs must be participate in tenders, and around 5 to careful not to overemphasise coun- 10 regularly do so. Within the euroarea try-specific needs. as a whole, between 300 and 400 banks It is possible that in the long run, currently participate. This contrasts integration and trade links within the withthesystemoperatedinothercoun- enlarged EU will reduce diversity and tries (such as the U.S.), where partic- reduce the argument for NCB input in ipation in open market operations is decision-makingbasedontheirregional limited to a few large players. In the information advantage. However, even latter systems, the transmission of if this were to occur, in our view, the monetary policy to a broad range of fi- argument for reducing NCB input so as nancial institutions occurs mainly via to improve efficiency is outweighed by the money market. Both systems are the benefits provided via competition, possible. Perhaps the most important the contribution to the checks and difference is that the system used by balances of the ESCB and their role the Eurosystem differentiates less be- in communication.1) Also, to a large tween types of market participants. Fi- extent it resembles the setting in the nancial institutions are able to decide U.S., which indicates that in other for themselveswhether or not to access monetary unions regional participants funds from the central bank or the mar- also play an important role.2) ket. This alsoallows monetary policy to more directly influence a greater num- 3.2 Monetary Policy Implementation ber of financial market participants, The Treaty requires the ECBs Execu- without being completely dependent tive Board to implement monetary on the interbank market. policyinaccordancewiththeguidelines At the same time, the decentralised and decisions laid down by the Govern- implementation ensures an element of ingCouncil.3)Consistentwiththesub- continuity for counterparties to the sidiarityprinciple,monetarypolicyop- operations in that they continue to hold erations are co-ordinated by the ECB accounts at their national central banks. and the transactions are normally car- The decentralised approach also em- ried out by the NCBs (European Cen- bodies an element of insurance against tral Bank, 2001a). The decentralised disasters, by ensuring that the system operation also reflects a philosophy hastheabilitytoimplementpolicyfrom of allowing broad participation in mon- locations across the monetary union. etary policy operations: all financial Finally, the approach fosters ongoing institutions subject to minimum re- contact between NCBs and market serve requirements in the euro area participants which is useful in the for- are able to participate in standard open mulation of monetary policyand, in the marketoperationsandaccessourstand- case of some NCBs (including DNB), ingfacilities.4)For theNetherlands,this can assist in the exercise of the super- means that around 85 institutions can visory responsibilities.

1 This does not exclude the possibility that, for practical reasons, the number of NCB governors in the Governing Council may be limited at any point in time (e.g. subject to some form of rotating scheme) followingeuro area enlargement. Nevertheless, were this to occur, it would be important for NCBs to continue to participate in the Council to the fullest extent possible in order to be able to effectively contribute to the tasks of the ESCB. 2 See, for example, Goodfriend (1999). 3 Protocol on the Statute of the European System of Central Banks and of the European Central Bank, Article 12 (1). 4 See European Central Bank (2000).

174 Arnout H. E. M. Wellink

Given the philosophy underlying nations are members of the Inter- the system, we do not see any scope national Monetary Fund (IMF), repre- for significant changes here in the sented by their central banks and/or short-term. This would also run coun- ministries of finance, so NCBs are often ter to some of the criteria set out pre- involved in the preparation of IMF- viously, notably the need to accurately related activities. The international assess market sentiment and the rele- network that NCBs have can in turn vance of NCBs for communication. be beneficial for other tasks. Given In the long term, if there is increasing the fact that national interests can di- consolidation within the banking sector verge across EMU members, this that reduces the total number of banks, set-up can be regarded as appropriate. as well as an increase in cross-border NCBs are also represented directly at mergers, the usefulness of implement- (and are shareholders in) the Bank ing policy from every central bank may diminish. If that occurs, it is possible that operations might be centralised in one or a few locations.

3.3 International Co-Operation With regard to international co-operation, it is necessary to distinguish between European and national responsibilities: European responsibil- for International Settlements (BIS). ities relate to matters that are of The BIS is not only a bank, but also importance to the entire Eurosystem, provides a forum to discuss a range whereas national responsibilities are of issues, including those relating to linked to national institutions or gov- financial stability. As is discussed ernments. The Treaty states that the below, this is a national responsibility. ECB should be the systems represen- Given that we are a shareholder in tative vis-a‘-vis third parties. The the BIS, and that the topics discussed Governing Council, as the key deci- in BIS forums relate to our areas of sion-making body of the ECB, decides responsibility, it is logical for NCBs how this is arranged in practice. For to remain actively involved in BIS most European issues, the ECB presi- forums. dent would normally fulfil this role. In the long run, as European inte- But, the Council can decide that gration proceeds, European interests others should also act as the repre- will increasingly replace national inter- sentative where this is desirable, or ests. There will be less need to pursue that national representation is more purely national policies vis-a‘-vis the appropriate. outside world in some areas. The speed However, not all external repre- at which this internationalisation oc- sentation involves European issues. curs will probably vary across issues. National central banks are the agents If European integration also moves of governments, and to the extent that towards political union, it makes sense international responsibilities are linked to de-couple representation of the to national sovereignty, these respon- Member States from the nations and sibilities remain at the respective totransfer ittoanEuropeaninstitution. NCB. An example is IMF membership: That is likely to mean that the ECB, and

175 Arnout H. E. M. Wellink

therefore its president, would have an the question of who should manage increasing role as the public face of the these funds on behalf of a country is ESCB. If national representation were open to debate. Currently NCBs are to be centralised at the European level, responsible for managing these funds governance arrangements of some and do so according to their own risk international organisations may need preferences. Nevertheless, these re- to be adjusted to reflect this. A single serves could in principle be centralised European representative in the IMF, and managed by the ECB (or a private for example, would imply that both sector asset manager). The ECB (or a the European and the U.S. representa- private sector manager) would then ef- tives have blocking votes. Such an ar- fectivelybeactingasanagent forNCBs. rangement could hamper the effective However,there are economic argu- working of the IMF. ments against the complete centralisation of reserves management: given the substantial value of these reserves, a common reserves management is not necessarily optimal. The risks of pooling suchalarge fund can 3.4 Foreign Exchange Operations be spread if each NCB manages its own and Reserves Management reserves. The potential benefits from The Treaty provides that the ESCB is the reduction in risk may therefore out- responsible for conducting foreign weigh the additional costs of the decen- exchange operations and managing tralised reserves management (consis- the official foreign reserves of tent with the concept of effectiveness Member States. To avoid conflicting set out in section 2). Moreover,manag- policy messages, the Treaty also pro- ing reserves deepens our knowledge of vides that foreign exchange trans- financial market developments, which actions should take place within a com- assists in carrying out our other tasks. mon framework. However, this argument should not Key reasons for central banks to preclude co-operation with another hold foreign reserves are to ensure that NCB or the ECB where an NCB lacks they have the ability to intervene in for- sufficient economies of scale to carry eign exchange markets if necessary — out the task efficiently. NCBs currently e.g. to smooth exchange rate fluctua- also manage the reserves of the ECB — tions or in reaction to financial crises. this involves only marginal additional All members of the ESCB own foreign costs for NCBs and means that the reserves. Those of the ECB are man- ECB does not need to duplicate the re- aged on its behalf by NCBs. serves management expertise that Foreign reserves and a central already exists in the system. However, banks net worth represent a part of at some point, it is likely that the ECB the wealth of a nation and are therefore will manage its own reserves, thereby owned by the nation. Accordingly, gaining the benefits of additional there is no particular need to transfer market contacts. In making decisions theownershipoftheseassets.However, on this issue, the Governing Council

176 Arnout H. E. M. Wellink

will consider the costs and benefits for economic perspective, the arguments the system as a whole. for national collection of data diminish. In the long run, the arguments It seems, however, unlikely that all against centralisation of all reserves statistics collection activities could be are likely to remain valid. Scope for efficiently centralised in one location complete centralisation therefore (given the size of the bureaucracy im- seems small. plied), but some clustering into regional groupings could occur. Closer 3.5 Statistics political union would also presumably According to the Maastricht Treaty result in some clustering or centralisa- the ECB shall collect the necessary tion of statistics gathering, as some statisticalinformationtofulfilitstasks, countries might wish to centralise their but the Treaty stipulates that the tasks statistical activities. should be decentralised to the extent possible1). Monetary statistics are collected by NCBs, as the collection of data typically involves close contacts with commercial banks. In a situation where NCBs are responsible for both the implementation of monetary policy and prudential supervision, the effi- ciencycriterionofsection2impliesthat it is clearly more efficient for the NCB 3.6 Operational Tasks: to collect monetary statistics. Other- Payment Systems and Banknotes wise, another statistical agency would Operationaltasksremainwithinthedo- also have to establish and maintain main of the NCBs. As the banker to contacts with commercial banks. To banks, central banks have typically the extent that NCBs collect statistics provided facilities whereby banks can on national data, it seems reasonable settle debts amongst themselves. Pay- thatthis should remaina national task.2) ments to and from the government are There seems little scope for gain from also often channelled through the cen- centralisation. tral bank (as banker to the govern- Some NCBs also collect or compile ment). A further reason why central non-monetary national statistics. DNB banks provide services in this area is does this for balance of payment to ensure financial stability. Because statistics as most of these data are also payment systems form a link between obtained from commercial banks. financial institutions, there is a risk that Although this task could in principle instability can be transmitted via these be transferred to the national statistics systems. By providing payment sys- institution, there is no indication that tems, central banks minimise that risk. they would be any more cost-efficient Payment systems differ across the than DNB, given the natural links we euro area. In this context, it is useful have with commercial banks. to make a distinction between whole- Over the long term, if national bor- sale and retail systems. An integrated ders become less important from an wholesale system was necessary for

1 See Article 5 of the Protocol on the Statute of the European System of Central Banks and of the European Central Bank. 2 Language differences also play a role here.

177 Arnout H. E. M. Wellink

the introduction of the common banks which focus mainly on na- monetary policy. To meet this re- tional markets are less interested quirement, the Eurosystem has devel- in seeing greater European harmo- oped the TARGET (Trans-European nisation that would entail (poten- Automated Real-time Gross settle- tially costly) changes. ment Express Transfer) system. Each (ii) Competition is less of an issue with NCB has its own wholesale payment wholesalepayments,giventheneed system, based on their existing tech- for systems that ensure financial nologies, and the European payment stability (implying a continued role system TARGET provides a common for central banks). However, we do interface. TARGET works effectively need to ensure that the services we as one pan-European system, but na- offer to banks donot take advantage tional differences remain. There is of any monopoly power that we also a link in this have. area to monetary (iii)Although we cannot be precisely policy impleme- sure how the wholesale payment ntation. Institu- systems will develop, it is clear that tions subject to technology provides us with in- reserve require- creasing options. For example, it ments are re- is possible to envisage a system that quired to hold is more harmonised than the cur- reserves at the rent system, but nevertheless al- NCB in the country in which they lows for some national variation are established. Similarly, they partic- to reflect the different desires of ipate in monetary policy operations via customers in different countries. that NCB. This necessitates the provi- Using the criteria of section 2, it sion of some form of payment systems seems likely that, in the long term, by NCBs. the efficiency argument would imply Looking ahead, further harmonisa- a further consolidation in the area of tion of the TARGET system is likely wholesale payment systems. An impor- in coming years, although the exact tant determinant of the speed of this form that this will take is not yet process is trends in the banking and clear. In this respect, there are three finance system. Tothe extent that there important factors that will deter- is a significant consolidation of banks, mine how payment systems are organ- and increasing numbers of banks oper- ised in the long term: (i) the desires of ating across the euro area, there may be customers (i.e. commercial banks), less demand for national differences in (ii) competition and (iii) technology. payment systems. Integration of stock (i) Customers wishes differ some- markets and other exchanges also in- what.Somelargebanksthatoperate creases the demand for harmonisation. across Europe are keen to see the These factors could eventually lead to introduction of a completely cen- some or all NCBs ceasing to offer pay- tralised system. That reduces their ment systems.1) need to deal with different national In contrast, central banks are often centralbanksanddifferentpayment not directly involved in the provision systems. On the other hand, those of retail payment systems. Instead, they

1 That could also have implications for the decentralised implementation of monetary policy.

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typically act to promote market solu- inonelocation,for instancewithregard tions. Cross-border retail payments to the sorting of banknotes. On the in the form of credit transfers are made other hand, the production of bank- via correspondents (sometimes in a notes is an area where further ration- multilateral context in the form of alisation is possible and where consid- club arrangements), or the commer- erable efficiency gains can clearly be cial banks own networks. These pay- achieved for the system as a whole, ments are relatively expensive, espe- as can be seen by a comparison between cially for small amounts. the number of staff involved in this task For the future of retail systems, the in Europe and the number involved in role of central banks is less relevant as theU.S.Inaddition,theintroductionof they do not provide the systems here. a common currency suggests that the On the other hand, competition may distribution of banknotes can be ration- play more of a role. That is already evi- alised across the dent in the Netherlands where cur- monetary union rentlyasingleproviderofclearing serv- asawhole,rather ices operates between banks, although than being based another provider is considering enter- within individual ing the market. There is clearly more countries. Mar- scope for cross-border services to de- ket participants velop. That is beginning to occur. The are already call- EU has recently decided that cross-bor- ing for discus- der paymentswithin the euro area must sions on this issue and we need to con- be provided for the same price as pay- tinue to work with them to arrive at ments within a country.This decision is sensible solutions. likely to stimulate the provision of cross-border services. Here commer- 4 National Tasks — cial banks need to consider how to bal- Responsibilities of DNB ance the competing demands of those Outside the ESCB customers predominantly interested in As is the case for other national central making payments within a country and banks within the ESCB, DNB carries thecoststhatareincurredtoaccommo- out a number of tasks that do not fall date those wanting cross-border pay- under the provisions of the Treaty of ments. To be cost-efficient, a com- Maastricht. Cross-country differences pletely integrated clearing system between NCB activities in this area re- would require countries payment sys- flect different preferences and tradi- tems to be more harmonised (e.g. with tionsregardingtheorganisationofthese regard to the use of instruments such as tasks and whether they have been allo- cheques and giro payments). Reaching cated to the central bank or not. agreement on how to proceed will take Although emanating from a national re- time and the ESCB has a role to play in sponsibility, these other tasks are gen- encouraging and supporting further erally related to monetary policy and progress. allow synergies between the various Finally, it is also important to con- tasks to be exploited. sider the more physical side of the op- In this section we use DNB as an erational tasks, i.e. the production and example to illustrate national duties. distribution of banknotes. It is clearly The key non-ESCB tasks of DNB cover not efficient to centralise all operations financial stability, prudential super-

179 Arnout H. E. M. Wellink

vision and our role as an independent — even where that is not explicitly set economic advisor to the Dutch govern- out in national legislation. In fact, cen- ment.1) As noted above, some of our tral banks are unique in that they are statistical functions and parts of our entrusted with an array of interrelated role in international co-operation tasks that gives them a broad oversight also fall outside the framework of of the financial system from these var- the ESCB. ious perspectives. That implies that For these non-ESCB tasks, the they have a competitive advantage in relevant question to consider is ensuring the stability of the financial whether these national tasks can best system. be carried out by a (national) central In some countries, authorities bank or by another national and/or in- other than central banks also have a re- ternational institution. This section sponsibilityforfinancialstability.Given will focus on financial stability,banking theTreatyrequirement thattheESCBis supervision and our role as an inde- also involved, those non-central bank pendent advisor. institutions have a responsibility to work together with the ESCB to ensure 4.1 Financial Stability thatwecanfulfilthetaskallocatedtous. TheTreatyspecifiesthattheESCBshall The increasing integration between contribute to the smooth conduct of financial systems (both cross-sector policies pursued by the competent and cross-border) requires close co- authorities related to the stability operation and information exchanges of the financial system.2) Financial between all institutions with a respon- stability is a responsibility that brings sibility for financial stability. together a number of the key tasks Atpresentthefinancialstabilitytask of central banks — including monetary is mainly national in character, with policy, banking supervision and pay- countries taking responsibility for mar- ment systems.3) Because monetary kets in their jurisdiction. At the same policyisimplementedviafinancialmar- time, international meetings and ESCB kets, financial stability is required for networks provide the opportunity to the effective implementation of mon- exchange information and views. etary policy.Payment systems also have Where necessary, international co-op- animportantlinkwithfinancialstability eration can be readily arranged to en- in that they can be a transmission chan- surethestabilityofthefinancialsystem, nel for financial instability. For those aswas evident in September 2001. But, NCBs with an involvement in banking as globalisation of financial markets and supervision, there is a further link, as financial institutions continues, the in- the soundness of individual financial international character of this task will stitutions is obviously relevant for the become increasingly apparent. As instability of the entire financial system. ternationalisation continues, we will Given these links, all NCBs have a com- have to consider whether some form petence in the area of financial stability of European financial stability forum,

1 Additionally, together with the Minister of Finance, DNB provides reinsurance of foreign payment risks for exporters and importers. 2 Protocol on the Statute of the European System of Central Banks and the European Central Bank, Article 3 (3). 3 These issues are discussed in more detail below. Note that although not all central banks have explicit banking supervision tasks, their involvement in financial stability means that they have to take a close interest in it.

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or a broader co-ordination mechanism the prudential supervisor.2) Toevaluate such as aworld-wide forum, is the most the potential long-term development effective way forward. At the moment, of banking supervision, we briefly re- such international forums provide for view the factors that determined the the exchange of information, but they decision to retain the supervision func- respect national responsibilities in this tionfor theNetherlandswithinthecen- area. Whether and how that might tralbank:first,thefunctionwasalready change in the future is unclear. in place in the central bank. In order to justify a change, there need to be clear 4.2 Banking Supervision efficiencygainsfrommovingtoanother As with financial stability, the Treaty allocation of tasks. That was not judged provides that the ESCB shall contribute to be the case. Second, there is a close to the conduct of policies pursued by link to our role in financial sector over- the competent authorities relating to prudential supervision.1) In contrast to the situation for financial stability, not all NCBs are the leading authority for prudential supervision in their countries. But, by explicitly assigning a role to the ESCB, rather than to the ECB, the Treaty gives all parts of thesystemaroleincontributingto prudential supervision. This institutional sight, meaning that we can exploit syn- set-up requires a creative solution to ergies between the two functions. allow the various players to each fulfil Third, there is a link to our role as their role. lender of last resort. Having the super- This sub-section briefly reviews visor in-house makes the communica- twoissues:(i) the arguments surround- tion channels shorter in the event of a ing whether supervision should be a crisis where it is necessary to judge task for a central bank, and (ii) the issue whether problems relate to only one of the integration of supervision across institution or to the system more Europe. Clearly, countries have made broadly, and to assess whether they different decisions regarding their reflect solvencyor liquidity difficulties. choice of the lead banking system For small countries, the need to ensure supervisor. Moreover, those choices a strong and viable institution (includ- have recently been reviewed in a num- ing its ability to attract high-quality ber of countries, including the Nether- staff)isanadditionalargumentinfavour lands,wherethedecisionwasmadethat of combining supervision with mone- the central bank should continue to be tary policy.

1 Again,theTreatydoesnotgivetheESCBprimaryresponsibilityinthisfield.Article105(6)doesprovidethat,intheeventof unanimous agreement by the European Council, acting on a proposal from the Commission and after consulting the ECB, couldconferontheECBspecifictasksrelatingtoprudentialsupervision.Thereisnoindicationthatthisislikelytohappenin the foreseeable future. 2 The recent changes have resulted in a division of tasks of along functional, rather than sectoral, lines. Organisational links betweenDNBandtheinsurancesupervisorhavebeenstrengthened.Thisfacilitatesanintegratedapproachwithrespecttothe prudential supervision of financial conglomerateswho may be active across a range of financial products. These prudential supervision tasks have been separated from tasks associated with overseeing the conduct of business of these companies and consumer protection.

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There are also arguments against alternative arrangements would be combining supervision and monetary preferable. policy in the same institution. Promi- The second issue concerns the cen- nent among these is the argument of a tralisation of supervision within the conflict of interest: for example, mon- euro area. The key argument in favour etary policy may not be tightened ofamorecentralisedsupervisoryframe- sufficiently to offset an inflation risk work is the increasing internationalisa- for fear of undermining the position tion of the financial sector.These inten- of parts of the banking system (see sified links between institutions and Sinclair, 2000). In practice, however, markets have increased the risk that the risk of a conflict of interest is contagioncouldextentbeyondnational rather limited (see Goodhart, 2000, borders.Euroareacentralisationwould and European Central Bank, 2001b, also reduce the scope for competition regarding the relevance of this point).1) between regulators and align pruden- Advocates of removing the supervisory tial supervision with the geographic function from central banks also argue boundaries of the monetary union.2) that agreements to exchange informa- Clearly, although the increasing tion can ensure that there are sufficient internationalisation ofbankswill deter- information flows between the central mine supervisory arrangements in the bank and the supervisor. However, future, it is not obvious that the estab- apart from carrying risks in terms of lishment of a single European super- timeliness and completeness, informa- visor is the most effective response tion exchanges are no substitute for to increasing internationalisation. First hands-on responsibility in the field. of all, financial structures currently The impetus to keep fully up-to-date differ across Europe and can therefore with new developments in financial better be supervised by national insti- instruments, and their implications tutions. Second, such an institution for risk management, diminishes if (which should be independent in order the central bank has no involvement to function effectively) would be very with prudential supervision. Even powerful and a system of checks and when the central bank is not ultimately balances would be necessary.3) Finally, responsible for supervision, some in- the absence of any fiscal union also plays volvement in supervisory tasks is im- a role here, as any major financial crisis portant. These arguments illustrate is likely to have implications on national that there may not always be a single budgets. Currently it is not clear to correct answer to the issue of where what extent sovereign countries are primary responsibility for supervision willing to bear the financial consequen- should lie. However, for the Nether- ces of the failure of institutions in other lands at least, it is not obvious that countries.

1 ThisholdsinparticularforEurope.Monetarypolicyissupranational,implyingthatthereislittleconflict,asnosingleNCB isinapositiontodetermineEuropeanmonetarypolicy.Moregenerally,evenifbanking supervisionisdelegated,theriskofa conflict of interest (albeit between different institutions) could still result in monetary policy reacting inappropriately to externalpressure.Havingbankingsupervisionandmonetarypolicyunderoneroofmightallowabettersolutionbecauseany trade-offcanbeexplicitlymade.Itisnottheexistenceofconflictsofinterestthatistheissue,buthowtheyaredealtwith.Here the solution is good monetary and prudential policies, not the physical separation of institutions. 2 See van der Zwet (2002) for a discussion of these issues. 3 TheU.S.achievesthesechecksandbalancesviatheexistenceofanumberofsupervisors.Forsmallcountries,theimportanceof achieving checks and balances may be outweighed by the need to ensure a strong and effective institution.

182 Arnout H. E. M. Wellink

What is required (and already oc- nominated by employers and unions, curs) is that the setting of basic rules along with independent members ap- of conduct takes place at the European pointed by the crown. The SER pro- level, and the practice of supervision is vides advice to the government across more harmonised, so as to ensure a various social and economic issues. An level playing field within the single advantageofthiscouncilisthatitsmem- market and beyond. In addition, bers represent various segments of cross-country agreements between society, ensuring that its advice is based supervisors are established as banks on a range of perspectives (a variant of expand across borders. These can be the checks and balances argument of tailor-made for the specific banks cir- section 2). DNB plays an active role cumstances. Out of these arrange- in the SER. To some extent, the input ments a more co-ordinated system that DNB provides reflects our in- might evolve organically over the com- sights stemming ing years, andwe should encourage this from our role to ensure that there truly is a level play- in monetary pol- ing field for banks from different icy formulation. parts of the EU. This is preferable to This includes attempts to impose a top-down Euro- highlighting the pean solution. implications of The Dutch situation might serve as the common an example: unlike other major Euro- monetary policy pean banks, our larger banks have for national economic policy in the tended to expand into the Americas, Netherlands. The issues covered by rather than into other parts of the the SER are, however, considerably EU. A common European solution broader than those where there is an may therefore not be the most efficient obviousconnectiontomonetarypolicy. from the Dutch perspective, since our Moreover, DNBs role as an advisor on banks have different interests and needs economicissuesextendsbeyondpartic- than those from other euro area coun- ipation in the SER. What, then, is the tries.Theissueiscurrentlyunderactive value-addedofDNBonissuesunrelated consideration, with various proposals to monetary policy? circulating for increased European The most important point is that it co-ordination. What is important here can be valuable for governments to re- is that all central banks are actively in- ceive objective advice from an inde- volved, regardless of whether or not pendent organisation. At times, the they have primary responsibility for advice from such an independent supervision. organisation may be unpalatable for a government. On the other hand, gov- 4.3 National Economic Advisor ernments are also able to hide behind In a number of countries, national cen- such independent organisations in tral banks have a formal role as an eco- order to advance policies that are seen nomic advisor to the government. In as necessary but unpopular. Such a role the Netherlands, for example, the as independent advisor does not have president of De Nederlandsche Bank to be fulfilled by a central bank, but is an ex officio member of the Social because of our historic involvement and Economic Council (SER). This in these issues it makes sense. We have council is made up of members established a reputation and are per-

183 Arnout H. E. M. Wellink

ceived as credible by the public. This involvement in euro area monetary reputation is important if we — and policy formulation strengthens our our advice — are to be taken seriously. voice at the national level. At the same We also have the necessary infrastruc- time, our knowledge of country- ture and are able to exploit synergies specific factors is higher, compared with some of our other tasks. This im- to a situation where the ECB would plies that we are able to undertake this fulfil such a role. We are able to task at relatively low costs (i.e. rela- take relatively controversial positions, tively efficiently). because of our high degree of statutory An alternative to the national cen- independence. Therefore it is highly tral bank would be to involve research likely that DNB will continue to fulfil institutes in this field. In the Nether- this function even in the long run. landstherearealreadyanumberofsuch institutes and 5 Concluding Comments they fulfil a val- The history of European integration uable role. But was politically motivated, but shows the comparative quite clearly that economic integration advantages of preceded political integration at times. DNB in eco- Monetary policy (and in particular ex- nomic policy ad- change rate arrangements) have tended vice more gener- to be at the forefront of these efforts.1) ally include the Despite deep economic integration, fact that we are actively involved in political integration still has a long policy-making. Our involvement in way to go, as is inter alia evidenced policy-making ensures that we do by the rather weak role of the European not operate in an ivory tower but parliament and the fact that the role of are part of a world-wide network that the Commission is not completely givesusaccesstoawide rangeofpolicy- clear. One of the guiding principles relevant information. As a result, if of European integration is its co-oper- we criticise some specific economic ative nature. This is reflected in the policies, the government cannot dis- Maastricht Treaty, which entrusts the miss our comment as readily as is ESCBasasystemwithpolicytasks.This possible with an academic research implies that all participating central report. It would also take time and banks, i.e. both the ECB and the NCBs, substantial investment before other must jointly fulfil the roles assigned by institutions were able to build up the Treaty. the credibility and networks necessary The unique history of the ESCB — to effectively carry out this role. It is formed when a group of sovereign therefore not evident that there countries surrendered their monetary would be any efficiency gains in policy autonomy to form a monetary transferring this role to another insti- union — goes a long way towards ex- tution. plaining why that is so. The central So our role aspolicymaker provides banks within the system operate to- a counterpart to the valuable con- gether as a team. While a strong centre tributions of academic research. Our is important for the team to perform

1 For a more detailed discussion on the history of European monetary union, see European Commission (2002) and Houben (2000). Houben also discusses the different monetary policy traditions in the various EU countries.

184 Arnout H. E. M. Wellink

well, the various national central banks Furthereconomicandpolitical integra- are also crucial parts of the system. This tionwouldalsoallowamorecentralised is particularly important in the formu- approach to be taken in areas such as lation of monetary policy,where public international representation. confidence in the policies of the system Even in a full-fledged political (and therefore their effectiveness) also union, regional identities continue to depends on our communication skills be an important factor. Shared histor- and our knowledge of country-specific ies, cultures and, in particular lan- factors. guages, are fundamental in shaping The European preference for sub- identities. These factors will remain sidiarity reinforces the tendency for in place for generations. Institutions decentralisation.Thispreferenceyields tend to be related to these feelings a number of benefits, but at the same of identity, and may even outlive them. time entails certain costs. In particular, National central banks are therefore it has consequences regarding the ex- likely to remain in place, albeit in a tent to which efficiency gains can be different form, for a long time to achieved through centralisation. come. § Viewed purely from an cost-conscious- ness point of view, there would appear References to be scope for centralisation or greater Aksoy, Y., P. De Grauwe and H. regional specialisation in a number of Dewachter (2002). Do Asymmetries areas. For example, increasing cross- Matter for European Monetary Policy? In: border activity by financial and non- European Economic Review. Vol. 46: financial companies is likely to result 443—469. in further harmonisation of payment Baldwin, R. E., E. Berglof, F. Giavazzi systems and co-ordination in financial and M. Widgren (2001). Nice Try: stability. A more harmonised payment Should the Treatyof Nice BeRatified? CEPR. system would in turn facilitate greater Berger, H. and J. de Haan (2002). Are specialisation in the implementation of Small Countries too Powerful Within the monetary policy. Banknote production ECB? Forthcoming in: Atlantic Economic anddistributionisalsoanareawherewe Journal. can look for more efficiency gains. Buiter, W. H (1999). Alice in Euroland. Inefficiencies need to be eliminated In: Journal of Common Market Studies 37. wheretheyexist,without undermining De Nederlandsche Bank (2000). The the fundamental principles upon which Role of a National Central Bank in the Single monetary union has been founded. European Monetary Policy. In: Quarterly Looking ahead, it seems likely that Bulletin March: 25—32. the basic structure of the system will Deutsche Bundesbank (1999). U‹ ber- remainintactfor theforeseeablefuture. legungen und Vorschla‹ge zur ku‹nftigen More substantial changes are linked to Organisationsstruktur der Deutschen the need for further political integra- Bundesbank. In: Monthly Bulletin 7. tion within Europe and the develop- European Central Bank (1999). The ment of supranational institutions in Institutional Framework of the European other policy areas. As long as Europe SystemofCentralBanks.In:MonthlyBulletin remains a community of nation states, 7: 55—63. national tasks are likely to remain a key European Central Bank (2000). The part of the work of NCBs, as the exam- Single Monetary Policy in Stage Three. ple of prudential supervision shows. General Documentation on Eurosystem

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Monetary Policy Instruments and Proce- Houben, A. (2000). The Evolution of dures. Frankfurt. Monetary Policy Strategies in Europe. European Central Bank (2001a). The Financial and Monetary Policy Studies Monetary Policy of the ECB. Frankfurt. Vol. 34, Kluwer Academic Publishers. European Central Bank (2001b). The Ko‹sters, W., S. Paul and J. Su‹chting Role of Central Banks in Prudential Super- (2001). Ein Effizienzmodell zur Struktur- vision. Frankfurt. reform der Deutschen Bundesbank. European Commission (2002). From Mimeo. Rome to Maastricht: A Brief History of Meade, E. E., and D. N. Sheets (1999). EMU. Download: http://europa.eu.int/ Centralization vs. Decentralization in the scadplus/leg/en/lvb/l25007.htm. Federal Reserve System: Lessons for the Fischer,S. (1995). Modern Central Banking. European Central Bank. In: Meade, E. E. In: Capie, F., C. Goodhart, N. Schnadt and and D. N. Sheets (eds.). The European Cen- S. Fischer (eds.). The Future of Central tral Bank: How Accountable? How Decen- Banking: The Tercentenary Symposium of tralized? American Institute forContempor- the Bank of England. Cambridge University ary Studies, Conference Report 4, Febru- Press: 262—308. ary: 53-67. Goodfriend, M. (1999). The Role of a Sinclair, P. J. N. (2000). Central Banks Regional Bank in a System of Central Banks. and Financial Stability. In: Bank of England Federal Reserve Bank of Richmond Work- Quarterly Bulletin, November: 377—391. ing Paper 99/04. VanderZwet,A.M.C(2002).TheBlurring Goodhart, C. (2000). The Organizational of Distinctions Between Different Financial Structure of Banking Supervision. FSI Occa- Sectors: Fact or Fiction. Research Series sional Papers No.1. Financial Stability Insti- Supervision No. 46, De Nederlandsche tute, Bank for International Settlements. Bank, Amsterdam. Basel.

186

Peter Bofinger Peter Bofinger Professor, University of Wu‹ rzburg

Comments on

Arnout H. E. M. Wellink,

The Role of National Central Banks

Within the European

System of Central Banks:

The Example of De Nederlandsche Bank

1 Introduction The paper by Arnout Wellink is very comprehensive and informative. It is divided in two main parts. In the first part he discusses the division of labour between the European Central Bank (ECB) and national central banks (NCBs) in the European System of Central Banks (ESCB). In the second part he describes and analyses the responsibilities of a NCB in the national context using the specific example of De Nederlandsche Bank (DNB). In my short comment I want to focus on the first part of the paper with a special view to the future role of NCBs in the monetary policy decision- Peter Bofinger

making process of the ESCB. Due to cific political environment in which the the enlargement process it is obvious ESCB is operating. For the time being that this role has to be redefined in Arnout Wellink regards this division of one way or another. labour efficient. For the future he sees a trend towards more centralisation all 2 Current Situation areas. But for two fields he is clearly and Prospects in favour of maintaining a decentralised for the Division of Labour approach: monetary policy decisions Between the ECB and foreign exchange market opera- and the NCBs tions and reserve management. A more As a starting point and theoretical detailed survey of the results is pre- framework for his discussion Governor sented in table 1. Wellink uses two criteria which are laid down in the Treaty establishing 3 WhatRolefortheNCBs the European Community: subsidiarity in the Field of Monetary and efficiency. With this framework he Policy Decisions? analysesthecurrentsituationandfuture As I completelyagreewith this analysis, changes in the division of tasks between I want to use my comments for a some- the ECB and the NCBs in six important what more detailed discussion of the areas: taskofmonetarypolicydecisionswhich — monetary policy decisions is certainly the most important area for — monetary policy implementation a participation of the NCB governors — international co-operation in the ESCB. A clear analysis of the di- — foreign exchange operations and vision of labour in this field is of special reserve management importance since the EU enlargement — statistics process has already led to an intensive — payment systems and banknotes discussions of how to solve the ECBs The analysis shows that the division numbers problem (Baldwin et al. of tasks is currently characterised by a 2001). In my view we have to find relatively high degree of decentralisa- an answer for two interrelated question in all six areas. It reflects the spe- tions:

Table 1 Main Results of the Paper by Arnout Wellink

Present tasks of the NCBs Assessment of the current situation Assessment of changes in the future

NCB governors participating Team effort with a strong, Benefits provided via competition, in monetary policy decisions but not dominant centre contribution to checks and balances, role in communication Monetary policy implementa- No scope for significant changes Usefulness of implementing policy tion by NCBs from every central bank will diminish International co-operation: Setting can be regarded As European integration proceeds, national responsibilities as appropriate European interests will increasingly represented by NCBs replace national interests Foreign exchange operations Transferring of ownership Scope for complete centralisation and reserve management to ECB problematic, seems to be small by NCBs Common reserve management not optimal Statistics: collection Efficient Arguments for national collection of monetary data by NCBs of data diminish Wholesale payment systems Justified by the decentralised Some or all NCBs ceasing operated by NCBs implementation of monetary policy to offer payment systems

190 Peter Bofinger

— Is it advisable to give national cen- — The principle of independence of tral bankers a say in the formulation monetary policy decisions from of the single monetary policy? the general political process and — — If yes: What is their optimum share in the case of a supranational bank — in the overall voting power of the also from national considerations. Governing Council of the ECB? — The requirement of a high degree In order to structure the discussion of accountability which can be I want to analyse three basic policy regarded as a natural corollary of options: a very independent legal status (i) A model for a centralised approach: it — Of course, the requirement of ef- is provided by the Bank of England ficiency is also very important, (BoE), where the Monetary Policy above all the need to react flexibly Committee council — with nine insituationswithunforeseenshocks members — takes all monetary pol- that could threaten the ECBs over- icy decisions. For the ECB this ap- all target of price stability or the proach has been proposed by Bald- stability of the financial system. win et al. (2001). (ii) A decentralised approach is provided 3.1 Monetary Policy Independence by the status quo of the Treaty on Letmestarttheanalysisofthreeinstitu- European Union according to tional options with regard to their which the governor of each mem- contribution to monetary policy inde- ber countrys central bank has a full pendence. As I have shown in Bofinger voting power in the Governing (2001), one can differentiate between Council. The guiding principle of goal, instrument and personal inde- this decentralised approach is pendence. Since the three options one member — one vote. areidentical intermsof goaland instru- (iii) An intermediate approach can be de- ment independence, we can focus on rived from the Federal Reserve personal independence which is pro- System (Fed). It would be charac- vided above all by terised by a restricted voting power — long terms of office, of the national governors. Accord- — a diversified decision making body, ing to the U.S. model, the voting and power could rotate among the gov- — a diversification in the nomination ernors so that e.g. not more than process. seven governors would have a vote It is obvious that all three options at a given point in time. would meet these criteria. A sufficient For a discussion of these options degree of diversification would be al- the general principles of subsidiarity ready granted with an MPC of nine and efficiency are very important cri- members that are elected by the Euro- teria, but they are — in my view — not pean Council. But as the degree of exhaustive. If we want to identify an diversification increases with the num- optimal constitutional framework for ber of members, the status quo could a central bank, we have to take into be regarded as the best solution. account those criteria which were spe- Under the specific conditions of cifically designed for monetary policy European Monetary Union one has purposes. I think there is broad consen- to be aware of the fact that independ- sus among economists that they include ence has an additional dimension which above all: is sometimes overlooked: independence

191 Peter Bofinger

fromnationalinterests.1)Acommonmon- impact on the living conditions of all etary policy requires that the decision- citizensinEurope.Aboveall,itissome- makers feel responsible for the whole times unavoidable that policy decisions area and do not regard themselves as are taken that have unpleasant short- representatives of their own national term effects on output and employ- interests. In this respect a monetary ment.Giventhegeneralpublicmistrust policy committee would be clearly in European politics which is obviously superior to the two other solutions. growing, it would be very dangerous to This applies above all for intermediate leave the management of the common solution. As it would require to aban- monetary policy to a group of ten wise don the principle one country — one men. This could lead to a situation vote, the voting power of each gover- where politicians in many — or even nor is determined by his or her country all — countries criticise the ECB while of origin. Thus there are no longer national governors he or she would and national central bank institutions be permanently that feel a responsibility for the com- reminded of the monmonetarypolicy.GiventheNCBs fact that he or function of a national economic advi- she is regarded sor this would also make it more dif- as a representa- ficult for the ECB to convey its views to tive of his or her the national governments. In this re- country and not spect the intermediate solution which as individual expert who is held re- violates the principle one country — sponsible for a single monetary policy. one vote is also problematic. Again, What about the decentralised approach it would have the consequence that which is provided by the status quo? In there are governors who have not par- my view, the Bundesbanks experience ticipated in the voting process and who has shown in an impressive way that the would not feel fully responsible for principle one member — one vote what is being decided in Frankfurt. helps to transform individual stand- Insum,thedecentralisedstatusquosol- points that were shaped by a specific ution clearly provides the optimum regional or political background into contribution to the requirement of ac- a common interest (the so-called countability. In the words of Wellink: Thomas Becket effect). I want to add [I]tmaybeparticularlyreassuring that so far — at least seen from outside for the public in countries where eco- — this effect has also been working effi- nomic developments diverge from the cientlyintheECBsGoverningCouncil. euro area average if their NCB gover- nor is seen to participate in the formu- 3.2 Monetary Policy Accountability lation of the single monetary policy. In terms of accountability, which is especially important for a very inde- 3.3 Monetary Policy Flexibility pendent central bank like the ECB, In terms of flexibility, a very large de- the centralised solution has serious dis- cision-making body certainly does advantages. Monetary policy is prob- not look very attractive. If each EU ably the most important field of overall member country would have a say in economic policy and it has a very direct interest policy, the Governing Council

1 See Berger and de Haan (2002).

192 Peter Bofinger

could in the medium- or long-term in- the ECBs Governing Council would clude up to 28 governors plus 6 mem- decline further. bers of the board. As Arnout Wellink However, it should be added that has stated, this would certainly go be- the overall macroeconomic perform- yond an optimal club size for discus- ance of the ECB, if it measured with sing the often very complex issues of a standard social loss function, monetary policy. Thus, under this cri- L ¼ 0:5ð TargetÞ2 þ 0:5ðOutputgapÞ2 terion the centralised approach with a relatively slim monetary policy com- has not been worse than the perform- mittee is clearly superior to any decen- ance of the more centralised Federal tralised solution. As far as the flexibility Reserve System (table 3). The same of the intermediate solution is con- implies for a loss function where only cerned, it is interesting to compare the inflation rate matters (inflation nut- the number of interest rate changes deter). However, it should be noted that cided by the Fed, the BoE and the ECB theverycentralisedBankofEnglandhas since January 1999. Based on this very been able to achieve the best perform- rough evidence, one could come to the ance. But again, this is a very rough conclusion that the ECB has indeed evidence. been somewhat less flexible than the two other central banks with a more 3.4 Assessment of the Three Options centralised decision making process The results of my admittedly very short (table 2). It seems obvious that with analysisofthethreemainpolicyoptions additional members the flexibility of can be summarised in table 4.

Table 2 Interest Rate Changes Since 1 January 1999

Central Bank Members Share Number with voting of members of interest rate power from the central changes institution Number % Number Bank of England 9 100 15 European Central Bank 18 33 12 Federal Reserve 12 58 17

Table 3 Average Annual Social Loss (from 1999 to 2002)

Bank of England European Federal Reserve Central Bank % Target inflation rate 2.5 2 2.5 Loss with flexible IT 0.1 0.4 1.1 Loss inflation nutter 0.1 0.3 0.4

Table 4 Assessment of Three Basic Policy Options

Criteria Centralised solution Decentralised solution Intermediate solution (Monetary Policy Committee) according to the principle: limiting the number of NCB one member — one vote governors with voting power Independence from — political influence + + + — national influence + + 0 Accountability — + 0— Flexibility + — 0+

193 Peter Bofinger

Itshowsthatweareconfrontedwith sions on strategic and institutional the unpleasant outcome that none of matters. the three options would perform well For thefirstgroupofissuesmyblue- under all criteria. A centralised ap- print envisages a clear prerogative for proach would provide flexibility and the ECB Board: independence but it is clearly sub- — It would take such decisions with a optimal in terms of accountability. simple majority. The one-member-one-vote approach — After this the decision would be performs well in terms of accountabil- discussed by the Governing Coun- ity and independence but it cannot be cil. It should be given a veto power recommended because of its inflexibil- as well as the power to take another ity, especially if the number of EMU decision. However this would remember countries will increase. The quire a majority of two thirds of intermediate approach is not really the votes. bad, but it is second-best in terms of For the second group of issues, national independence, accountability decisions would be taken with a simple and flexibility. majority by the Governing Council. OfcoursewithalargeCouncil,itwould 4 A Synthetic Solution be difficult to discuss complex ques- Since all criteria are equally important, tions in detail. However, from my it would be dangerous to adopt a sol- experience with the Bundesbank I ution with an insufficient or even a sec- know that it is possible to have efficient ond-bestperformance inonecriterion. discussion by an exchange of internal Therefore, I suggest to increase the papers before the meetings take place. menu of options by a synthetic solution This synthesis would have the ad- which tries to combine the advantages vantage that it allows the Board to react of the two polar solutions as far as in flexible way to changing economic possible. conditions while at the same time it Such a synthesis would make a dif- would keep all national central bank ference between governors actively involved in the de- — decisions which require a fast and cision-making process for the single very confidential decision process, i.e. monetary policy. above all decisions on interest rates, In order to guarantee a sufficient foreign exchange market inter- degree of diversification in the Board ventions, and the provision of this approach would require that the lender-of-last-resort facilities, and number of the Board members is in- — decisions which allow a more time creased to at least nine. It would be fordiscussionandwhichareofaless advisable to share the responsibility confidential nature, above all deci- for economic analysis and research

Table 5 StaffofMajorCentralBanks

European Federal Reserve Deutsche Banque Central Bank (2001) Bundesbank de France (2001) (2001) (2000) Number Staff in the headquarter 1,043 1,650 2,412 5,924 Staff in regional branches x 21,290 12,405 7,828 Source: Annual reports.

194 Peter Bofinger

among the present chief economist and approach would run the risk of paralys- the additional members. This would ing of monetary policy which would provide some protection against the have to be decided by a large Governing risks of a dominant inhouse view that Council of 30 or even more members. is intolerant of challenges to local or- Since an intermediate solution with a thodoxy a quote from Willem Buiter rotating voting scheme is second best that I found in the paper by Arnout in most respects, I have tried to design Wellink. a synthetic solution which combines A strengthening of the ECBs Board the advantages of a very centralised would also require that the number of and a very decentralised solution. It its staff will be substantially increased. gives the Board a dominant role in As table 4 shows the ECBs Board is ob- interest rate decisions but the Council viously understaffed in comparison would have the right to overrule Board with the Fed, and even more so with decisions with a majority of two-thirds. the Bundesbank or the Banque de In addition the Council would retain France. a full say in institutional and strategic issues. Thus, the response of my ap- 5 Summary proach to EU enlargement is to The paper by Arnout Wellinkhas made strengthen the role of the Board so that very clear that a high degree of national it is able to cope with an increasing representation will remain an impor- number of NCB governors which re- tant requirement for a successful per- main involved in the decision-making formance of the ECB in the future. But process. § given the challenges of enlargement, it will become more and more difficult to References meet this requirement in a way that Baldwin R., E. Berglof, F. Giavazzi, and maintains the flexibility of the single M. Widgren (2001). Nice Try: Should monetary policy. A very centralised the Treaty of Nice be Reformed? CEPR approach along the lines of the BoEs London. Monetary Policy Committee would Berger, H., and J. de Haan (2002). Are be first-best in terms of independence Small Countries too Powerful Within the and flexibility but it would impair an ECB? Forthcoming in: Atlantic Economic adequate representation of the ECBs Journal. policy in the national sphere and its Bofinger, P. (2001). Monetary policy. accountability. A very decentralised Oxford University Press.

195 Paul De Grauwe Paul De Grauwe Professor, University of Leuven

Comments on Arnout H. E. M. Wellink,

The Role of National Central Banks

Within the European System of Central Banks:

The Example of De Nederlandsche Bank

1 Introduction The main point of this thoughtful paper of Arnout Wellink is the following. National central banks continue to play an important role within the Euro- system. This is the case not only in the formulation and implementation of monetary policy, but also in other areas,e.g.in theareas of financialstabil- ityandbankingsupervision.Thisroleof the national central banks within the Eurosystem is not some remnant of the past that must be eliminated as quickly as possible. It also provides for a better functioning of the Euro- system. I sharetheviewthatnational central banks have an important role and will continue to have one in the future. I also sharetheviewstressed by Arnout Well- ink that the degree of centralisation in the Eurosystem must proceed in step with further political integration. Yet incertainareas,theroleofnationalcen- tral banks will have to be reduced very quickly. Paul De Grauwe

I will concentrate here on the de- course of action is for the euro area as cision-making process within the Gov- a whole. erning Council and the challenges that The problem can be illustrated us- arise as a result of enlargement. This is ingaverysimple model inthe following an area where the role of national cen- way. In chart 1 we present the interest tral banks must be re-evaluated. rates that are desired by the twelve governors of the Eurosystem. We take the 2 Enlargement and view that there are asymmetric devel- Institutional Reform opmentsleadingeachgovernor tocom- The enlargement is bound to have im- pute an interest rate, which is optimal portant implications for the decision- for his own country.2) Thus each gov- making processwithin the Eurosystem. ernor desires a different interest rate The present system is characterised to prevail in the Eurosystem. For the sake of simplicity we assume that these desired interest rates are distrib- uted uniformly between 3% and 4.1%. This is shown by the horizontal line. Chart 1 also by equal representation of each mem- shows the relative size of each country ber country in the Governing Council as measured by GDP. For example, through the presidents (governors) of Germanys GDP represents 30% of the national central banks. When, like the total. It can be seen that Germany today, the number of countries is lim- desires an interest rate of 3.4%. We ited to twelve such a system can work make the further assumption that the satisfactorily. In a future system where ECB Board (six members) has the same 27 countries could be sending a repre- desired interest rate and that this is ob- sentative to the Governing Council the tained by an analysis of the euro-wide difficulties to achieve a consensus about economic conditions. Thus the ECB- the stance of monetary policy will be Board computes the optimal interest much greater than today.1) This is rateusingtheEurosystem-wideaverage due not only to the larger numbers of inflation and output. This implies of persons involved in such a system, that the ECB-Board takes a weighted but also because there will be more average of the nationally desired inter- asymmetric developments in an en- est rates, where the weights are the larged euro area. These asymmetries GDP-shares.3) This yields the result will necessarily lead to different per- that the ECB-Board desires an interest ceptions among the national gover- rate of 3.5%. Thus, seven members of nors about what the most appropriate the Governing Council (six Board

1 See Baldwin, et al. (2001) for a detailed analysis of the decision-making problems in an enlarged European Union. 2 Officially the governors are not supposed to do this. It is doubtful, however, whether governors do not take the national economic conditions into account. There is interesting evidence that even in the U.S. Fed, regional interests play a role in monetary policy decisions. See Meade and Sheets (2002). 3 See Aksoy, De Grauwe and Dewachter (2002).

198 Paul De Grauwe

Chart 1 Distribution of Desired Interest Rates and Country Size (Euro-12) Symmetric Case Size Distribution

0.30 7 6 0.25 5 0.20 4 0.15 3 0.10 2

0.05 1

0.00 0 3.0 3.1 3.2 3.3 3.4 3.5 3.6 3.7 3.8 3.9 4.0 4.1 Interest rate

Country size (left-hand scale) Distribution (right-hand scale) members and one governor) desire the temmembers,itdoesnotmakeadiffer- same 3.5%. This feature produces a ence whether the national governors peak in the distribution of desired in- care about the euro area-wide eco- terest rates around 3.5%. nomic conditions or not. It is now obvious that the ECB- The previous description is nothing Board will have a strategic position but an application of the medium voter in the decision-making process. It will theorem. The ECB-Board which is have to find only two extravotes to have averaging the desires of national gover- a majority for its interest rate proposal. norswill be close to the desired interest These can easily be found among the rate of the median governor, (at least if two governors that are close to the these desires are symmetrically distrib- ECB-Boards desired interest rate. uted). In a majority voting system the Note that it will be very difficult for median voters preferences prevail. other coalitions to beat the ECB- Note that since the strategic posi- Boards proposal because such a coalition of the ECB-Board is so powerful, tion would have to span both those gov- it is unlikely that the members of the ernors who desire a higher interest rate Governing Council will come to ex- and those who desire a lower interest plicit voting. Everybody is aware that rate. The nice thing about this result is whatever the Board is proposing will that the Governing Council will select almost certainly find a majority. the interest rate that is optimal for the How is this result affected by differ- system as a whole, even if each national ent distributions of the desired interest governor is only concerned about the rates? Suppose that this distribution is economic conditions prevailing in his asymmetric in that the large countries country. It is clear that if the national (Germany, France, and Italy) have dif- governors disregard the national eco- ferent desires than the small countries. nomic conditions and care only about This could arise when the large coun- the Eurosystems average economic tries experience subdued economic conditions (as they claim they do) activity while a large number of small the result will be the same. Thus in countries experience booming eco- the present situation with 12 Eurosys- nomicconditions.Weshowanexample

199 Paul De Grauwe

Chart 2 Distribution of Desired Interest Rates and Country Size (Euro-12) Asymmetric Case Size Distribution

0.30 7 6 0.25 5 0.20 4 0.15 3 0.10 2

0.05 1

0.00 0 3.0 3.1 3.2 3.3 3.4 3.5 3.6 3.7 3.8 3.9 4.0 4.1 Interest rate

Country size (left-hand scale) Distribution (right-hand scale)

of such a scenario in chart 2. We now positionwithintheGoverningCouncil, findthattheECB-Boardsdesiredinter- which is maintained even when the dis- est rate (3.3%) is significantly different tributionofdesiredinterestratesisvery from the median desired interest rate different among large and small coun- (3.55%).Thisfollowsfromthefactthat tries. As a result, the decision-making the large countries have a large share in process within the Governing Council the averaging procedure applied by the ensuresthattheinterestratethatwillbe ECB-Board. Thus the ECB-Board de- decided is the optimal one from the sired interest rate is relatively close point of view of the Eurosystem as a to the desires of the large countries whole. (and rightly so because the three large Things will be very different in countries represent about 70% of the an enlarged Eurosystem. We first Eurosystems GDP). present chart 3, which is similar to It can now be seen that despite the chart 1 and which presents the distri- fact that the ECB-Boardsdesired inter- bution of desired interest rates in est rate diverges from the median, the the enlarged Eurosystem consisting ECB-Board should have few difficulties of 27 members. Thus the Governing in forcing its desire to pass in the Council consists of 33 members, which Governing Council. All the Board means that an interest rate proposal has to do is to find three votes for must have 17 votes to obtain a majority. its proposal. It will likely find it among We assume that the distribution of the three central banks whose desired the desired interest rates among small interest rate is close to 3.3%. In addi- and large countries is approximately tion, despite the asymmetry in the symmetric. As before the ECB-Board distribution there are only eight gover- computes the desired interest rate nors available for a coalition in favour for the Eurosystem as a whole (the of a higher interest rate than 3.3%. In weighted average of the nationally order to beat the ECB-Boardsproposal desired interest rates). ten votes are necessary. A first thing to observe is that the Weconclude that in the present sit- ECB-Boardsstrategic position isweak- uation the ECB-Board has a strategic ened. It will now have to find ten gov-

200 Paul De Grauwe

Chart 3 Distribution of Desired Interest Rates and Country Size (Euro-27) Symmetric Case Size Distribution 7 0.20 6 5 0.15 4 0.10 3 2 0.05 1 0.00 0 2.5 2.7 2.9 3.1 3.3 3.5 3.7 3.9 4.1 4.3 4.5 4.7 4.9 5.1 Interest rate

Country size (left-hand scale) Distribution (right-hand scale) ernors to back its proposal for its de- 17 votes to form a majority). Similarly sired interest rate of 3.7%. Since one the governors desiring less than 3.7% governor has the same desired interest can only muster 13 votes. Thus, the rate of 3.7%, nine governors with dif- ECB-Board will most likely be able ferent desires must be found to obtain a to find a majority. majority. The asymmetric case is shown in Despitethe factthat theECB-Board chart 4. As in chart 2 we now assume must make a greater effort to find the that there is an asymmetric distribu- backing for its proposal, it can also be tion of interest rate desires between seen that the ECB-Board still has a large and small countries. We assume strong position. The reason is that its that the four large countries (Germany, proposal (the mean) is very close to France, Italy, and U.K.) all desire the median proposal. As a result, coa- relativelylowinterestrateswhilealarge litions to defeat the ECBsproposal will fraction of the small countries desire be difficult to find. For example, the relatively high interest rates. Our number of governors in favour of an results are now very different. The dif- interest rate higher than 3.7% amounts ference between the ECB-Boards to only 13 (remember that one needs desired interest rate, 3.1%, (the mean)

Chart 4 Distribution of Desired Interest Rates and Country Size (Euro-27) Asymmetric Case Size Distribution 7 0.20 6 5 0.15 4 0.10 3 2 0.05 1 0.00 0 2.5 2.7 2.9 3.1 3.3 3.5 3.7 3.9 4.1 4.3 4.5 4.7 4.9 5.1 Interest rate

Country size (left-hand scale) Distribution (right-hand scale)

201 Paul De Grauwe

is now significantly lower than the in their own countries. Since the large median desired interest rate, 3.7%. countries (Germany, France, Italy) Asaresult,acoalitionofsmallcountries represent about 70% of the total, this desiringahigherinterestratethan3.1% decision-making model also ensures can now be found, thereby defeating that the large countrys interests are the ECB boards proposal.1) It is there- relatively well served, despite the over- fore possible that an interest rate deci- representation of the small countries in sion is made that suits the interests of the Governing Council. Because of the a coalition of small countries that rep- strategic position of the ECB-Board a resent a small fraction of the Euro- consensus can usually be reached easily systems GDP.This interest rate would aroundthe interestrateproposals made not be optimal for the Eurosystem as by the Board. As a result, formal voting . a whole. If such a scenario were is usually not necessary. to materialise it In an enlarged Eurosystem this con- would likely lead sensus model is likely to break down. to grave conflicts The reason is that the ECB-Board will within the Euro- loose its strategic position. It will be system. confronted by the possibility that its in- How likely terest rate proposals will be overruled is the preceding by coalitions of small countrieswho ex- scenario? The periencedifferenteconomicconditions answer is diffi- thantheaverage(whichisdominatedby cult to give. The scenario has some thelargecountries).Thiswillcreatethe plausibility, however. Most of the small possibility that interest rate decisions countries in the enlarged euro area are will be made on the basis of economic less developed and therefore experi- conditions that prevail in a relatively ence relatively large productivity small part of the euro area. This is growth. This is likely to lead to the Ba- bound to lead to grave conflicts within lassa-Samuelson effect, i.e. these coun- the Eurosystem. trieswill experience stronger inflation- The essence of the problem is that ary pressures than in the rest of the the small countries are over-repre- Eurosystem. There may be other rea- sented in the Governing Council and sons why such asymmetries occur. In that in an enlarged Eurosystem this will any case even if they are not likely, they have the fatal effect that interest rate may still occur at some point putting decisions may not always be made on much strain on the Eurosystem. the basis of the average economic con- The problem we have identified can ditions that prevail in the union. The be summarised as follows. In the solution to this problem must therefore presentset-uptheECBBoardhasa stra- consist in reducing the importance of tegic position in the decision-making smallcountriesintheGoverningCoun- process within the Eurosystem. This cil, so that the strategic position of the ensures that the interest rate decisions Board can be maintained. This can be are made on the basis of the needs of achieved in several ways. We discuss theeuroareaasawhole.Thisissoevenif some possible formulas. the national governors are guided by — The U.S. Fed formula: this consists in the economic conditions that prevail allowing all governors to partici-

1 This does not mean that such a coalition will necessarily be found. The point is that it is now a serious possibility.

202 Paul De Grauwe

pate in the deliberations of the one of their governors on a rotating Governing Council but to restrict basis.1) the voting rights to a limited number of governors (e.g. ten) on a 3Conclusion rotating basis. IsharethegeneralphilosophyofArnout — The IMF formula: this consists in hav- Wellinks very interesting and thought- ing small countries group together ful paper, i.e. that there is merit in the in constituencies and be repre- decentralisedset-upoftheEurosystem. sented by one governor. However, there is one area where we — The centralised formula: this consists will have to move to more centralisa- in restricting the decision-making tion quickly, i.e. in the decision modes to the Executive Board of the within the Governing Council. This is ECB. Today the Board consists of necessary because in an enlarged Euro- six members. In this formula there system, the present decision-making is some scope forexpanding the size model will become unworkable. § of the Board. The third formula is probably too References drastic. The advantage of the first for- Aksoy, Y., P. De Grauwe, and H. mula is political. By introducing a Dewachter (2002). Do Asymmetries system of rotation in the voting, one Matter for European Monetary Policies. does not have to discriminate between In: European Economic Review, 46: small and large countries. The effect on 443—469. the outcome will be broadly the same Baldwin, R., E. Berglo‹f, F. Giavazzi, and whether it is small or large countries, M. Widgre«n (2001). Nice Try: Should which are allowed to vote since this the Treaty of Nice be Ratified? Monitoring rotation system reinstores the strategic European Integration, 11, CEPR, London. position of the ECB-Board. Large Meade,E.,andN.Sheets(2002).Regional countries, however, may not like this Influences on U.S. Monetary Policy: Some solution. As a result, a combination Implications for Europe. International of the first and second formula could Finance Discussion Paper, No. 727, Board be a reasonable compromise whereby of Governors of the Federal Reserve groups of smaller countries delegate System, Washington, D.C., May.

1 It is unclear, though, whether this solution is consistent with the Nice Treaty which says that the rebalancing of the votes should not introduce discriminations between countries.

203 Christian de Boissieu Christian de Boissieu Professor, University of Paris I (Panthe« on-Sorbonne)

The European Industry

and the Organization of Banking Supervision

in Europe

Thedebateconcerningtheorganization of prudential policy and banking super- visionhasbecomeahighlysensitivesub- ject in the present European context. This is so because it involves many aspects: the necessity to cope with persistent banking fragility and financial instability; the difficult balance to be found between centripetal forces (i.e. centralization or, at least, deeper coordination) and centrifugal forces (i.e. decentralization and the full respect of the subsidiarity principle) in the context of Economic and Monetary Union (EMU); the respective role of the Ministries of Finance, the European Central Bank (ECB) and the national central banks (NCBs) and, when they exist,ofsomemoreorlessindependent commissions or committees in charge of banking supervision; the conflicts and arbitrage between a lot of vested interests; etc. Christian de Boissieu

The purpose of this paper is to re- Following Cecchetti (1999), the view the facts and some of the argu- structure of financing refers here ments concerning the organization of to three structural aspects: 1. the banking supervision in Europe and financing of non-financial agents to come to some policy recommenda- (firms, households, the state, tions. etc.), i.e. the respective share of intermediation and disintermedia- 1 The European tion in total financing. In EU coun- Banking Industry: tries like everywhere, disinterme- WhereDoWeStand diation has been developing in and Where Do We Go? parallel to financial innovation, de- 1.1 About the Effectiveness regulation, securitization, etc. The of the Single Market current trend is toward market- The single market has dramatically ac- based financial systems (see Allen celerated banking and market integra- and Gale, 2000), but in most euro tion in Europe. Nowadays the share of area countries, as opposed to the cross-border transactions within the U.K., bank financing still amounts euro area varies between 40% and to nearly 50% of the overall exter- 50% according to the type of trans- nal financing of non-financial units actions. For example, the average value (see Boissieu, 2002, for the French of payments through TARGET (Trans- figures); 2. banking concentration. European Automated Real-time Gross Looking at the recent data particu- settlement Express Transfer) is around larly at the concentration ratios EUR 400 billion per day. (the Herfindahl index, the share We have seen in the last couple of of the top five banks, etc.) calcu- years an impressive acceleration in the lated by the ECB staff (ECB, banksappealtothesupplyofcross-bor- 2000), three groups of countries der financial services. The launching of must be taken into consideration: the fiat euro as of January 1, 2002, has highly concentrated banking sec- been fostering competitive pressures tors, to be found in small and open including tax- and regulatory competi- economies (Finland, the Nether- tion. Even if those competitive pres- lands, Belgium, Denmark, etc.; sures are more intense in the wholesale outside the EU Switzerland); me- and the middle market, they also affect dium concentration ratios regis- the retail market. tered in Austria, France, Italy, Nominal and real convergence has etc.; under-concentrated (at least progressed markedly in European incomparisontoEUaverage)bank- banking. Nevertheless some relevant ing systems (Germany, Luxem- divergences and some important ob- bourg, the U.K.). Everywherecon- stacles to a genuine single market still centration ratios have increased sig- remain in place. I cite some of them. nificantlysince1995inEUMember (i) Divergences in the structure of States, with one important excep- financing of EU countries. These tion (the U.K.). In the meanwhile divergences are fully expected the standard deviation of concen- and normal since they reflect the tration ratios within the EU area specific historical path and the eco- has not dropped significantly. By nomic and cultural characteristics the way, when looking at the effec- of each national financial system. tiveness of competition, the degree

206 Christian de Boissieu

of contestability in the market for ated a minimum harmonization banking and financial services is throughanadjustmentontheshort morerelevantthanthebankingcon- sideoftheregulation.Forinstance, centration ratio. From the view- the 1994 directive on deposit point of contestability there could insurance is fully consistent with be more convergence in European the current wide disparity in coun- banking than when considering try deposit insurance schemes. I am concentration ratios; 3. corporate not saying that we must converge governance characteristics. Both the to the same liquidity rules, internal single market and the single cur- controlrules,anddepositinsurance rency, by speeding up cross-border schemes or to the same level and consolidation transactions, aregen- structure of savings taxation. What erating some convergence in banks I am saying that the gaps observed corporate governance in Europe. But some national idiosyncrasies still prevail regarding the role of the board, the relationships between the management, the stock- holders,theother stakeholders,the degree of transparency of information, etc. (ii) Loopholes in EU legislation. An impressive set of European direc- in many dimensions of the regula- tivesconcerningthefinancialsector tory framework are not consistent, has been adopted and implemented in the medium and long term, with since the mid 1980s, including the theeuroandEMU.Thesegapsmust crucial 2nd Banking Directive (and not disappear but they have to nar- its home country control rule as row. This is necessary, but not suf- the principle, with the usual excep- ficient, to come closer to a level tions). When assessing this set of playing field. directives,wemustinthesametime (iii) Divergences in the attitude of pub- acknowledge the progress already lic decision-makers. The general attained and notice the remaining rule is that, for becoming effective, loopholes and regulatory chal- aEuropeandirectivehastobetrans- lenges. Some topics which are cru- posed into the national law of each cial for the establishment of a true member country.Due to the signif- level playing field are not yet cov- icant room for maneuvers that ex- ered by a European directive, such ists into such a procedure, impor- as the liquidity ratio, internal con- tantcompetitivedistortionsremain trol rules and procedures or take- despite the harmonization process. over bids (after the failure of the Banking consolidation is also a good draft directive on take-over bids example of persistent divergences. in2001).Somedraftdirectiveshave In January 1999, M. Fazio, gover- still to go through the lengthy but nor of the Banca dItalia, rejected democratic process of adoption the draft merger between IMI, (e.g. the directive concerning the San Paolo di Torino and Banca di supervision of financial conglomer- Roma since it was unfriendly. ates). Other directives have gener- Two months later the French Com-

207 Christian de Boissieu

ite« des Etablissements de Cre«dit et the effectiveness of the single market, des Entreprises dInvestissement we could reasonably expect further (CECEI) authorized the launching integration as regards financial mar- of the twofold bid by BNP on Soci- kets, payment systems and banking sec- e«te«Ge«ne«raleandParibasdespitethe tors in Europe. Notwithstanding the fact that it was unfriendly (unsoli- crucialimplicationsoffinancialmarkets cited by the targeted banks) (in and payment systems for prudential August 1999, after the market deal, policy and the management of systemic the CECEI rejected the purchase of risks, I will here focus on banking re- Socie«te«Ge«ne«rale by BNP mainly on organization and its main policy conse- the ground of corporate gover- quences. nance considerations). Is such a dis- (i) Europe in general, the EU area in crepancy in the attitude of pruden- particular are just in the midst of tial authorities consistent with a the banking consolidation process. genuine single market? I have some The forces behind this process doubt. are still very active: deregulation, (iv) Persistent divergences in thebehav- growing competitive pressures ior of private investors. I give two (the euro is not the cause of banking illustrations.First,theretailmarket reorganization, just a catalyst for (households, individual entrepre- it), a persistent excess capacity at neurs,etc.)remainsandwillremain the world level (therefore, also in very sensitive to proximity serv- Europe) on many segments of ices (proximity (or vicinity) refers themarketforbankingandfinancial here not only to geographical con- services (intermediation activity, siderations, but also to cultural and some market activities of banks, commercialaspects).Thereforethe possibly e-banking, etc.). There- relevant market area for such cus- fore banking consolidation in tomers and for the retail bankers Europe could last a couple of years will continue to be local or regional more from now. despite the ongoing development (ii) Duetotheeuroandamoreeffective toward financial globalization and single market, cross-border merg- the new technologies (including ers or acquisitions are going to Internet). Second, a significant represent an increasing proportion national bias does remain on of overall consolidation deals. the part of borrowers and investors Nowadays this proportion is still and the reasons for this are numer- marginal. During the year 1999, ous (asymmetry of information, cross-border consolidation trans- transactions costs, remaining regu- actions represented nearly 17% latory barriers to capital mobility of the overall number (NB not the and international diversification amount) of transactions. During notwithstanding the single market the first half of 2000, the figure rules, etc.). raised to nearly 26% (data collected by the Banking Supervision Com- 1.2 The Outlook: Growing External- mittee of the ECB). In most EU ities Coming from Further membercountries,bankingconsol- Consolidation and Integration idation has been taking place in two Given the youth of EMU and euro phases which are somewhat over- and given the time required to ensure lapping: first the creation of na-

208 Christian de Boissieu

tional champions, second a grow- due to the lack of clear-cut compa- ing cross-border dimension (e.g. rative advantages). For the me- thefriendlybidonCre«ditCommer- dium- and long run, three catego- cial de France by HSBC). ries of banks are going to coexist (iii) Banking concentration will keep (Boissieu, 2001): universal banks, going on despite the controversy multi-specialized banks (with a cer- concerning the existence and the tain number of niches), mono- magnitude of economies of scale specialized banks (having one main in banking. There is no doubt that comparative advantage). Subcon- Internetandtheother newtechnol- tracting relations between those ogies are opening some additional variouscategoriesofbankswillcon- room for scale economies. Never- tinue to develop. theless the critical size above which (v) Wecannot dismiss the policy impli- scale economies disappear and are cations of further banking concen- transformed either in constant re- tration. This concentration is not turns to scale or even in disecono- going to jeopardize competition mies of scale remains pretty low in and the protection of customers banking in comparison with indus- provided that the market stays con- try. Most merger and acquisition testable enough. Let us concentrate activities (M&As) in banking come on the prudential consequences of from the search for bigger market banking consolidation. On the one shares rather than from actual hand, such consolidation is often economies of scale. the institutional answer to an actual (iv) In Europelikeelsewhereconsolida- and/or expected banking fragility tion will progress in parallel to con- (a lack of capital, a low return glomeration. There is some eco- on equity by the sector standard, nomic foundation for such a trend: etc.). On the other hand, banking the evidence is more convincing for consolidation could generate an- economies of scope than for econo- other type of systemic fragility mies of scale. However, from an by enlarging the area of the too empirical viewpoint, concentra- big to fail (TBTF) rule (see Berger tion and product diversification etal., 1999).Therefore, inorder to are often difficult to disentangle contain moral hazard, the super- from each other. In 1999 consoli- vision authorities must improve dation across the various financial the monitoring of large banks sectors (banking, insurance, bro- and financial conglomerates. In ef- kerage, etc.) either domestic or fect, banking supervision has to cross-border represented 33% of concentrate on sizeable financial in- the overall number of consolidation termediaries (to limit the moral transactions in the EU. There is no hazard generated by the TBTF rule) clear token that this proportion and also on small banks which stay could have already started to drop. under the critical size regarding the Product diversification and despe- implementation of reliable internal cialization are still overwhelming controlprocedures.Chart1depicts vis-a‘-vis the strategy of re-special- the U-curve relationship between ization by some financial inter- the size of the bank and the required mediaries(e.g.somebanksareleav- degree of banking supervision ing the non-life insurance business (Boissieu, 2001):

209 Christian de Boissieu

Chart 1 will have to choose either the stand- Degree of supervision ard model (relying mostly on the external grading by the rating agencies) or its own internal model for assessingcreditrisk(thisfreechoice is the token of decentralization).

Size of the bank But a referee (depending on the national institutional idiosyncra- Tosum up the various and converg- sies, the national central bank, ing arguments, externalities (and also thebankingcommission, theFinan- networkeffects) are going to develop in cial Services Authority — FSA, etc.) the European financial sector, relating will have to gauge the quality of in- to payment systems, financial interme- ternal models, requiring some cen- diariesandfinancialmarkets.Thistrend tralization of information (about unavoidablyinfluencestheorganization thecontentandtheaccuracyofeach of prudential policy and banking super- model). What is at stake for the last vision. stages of the negotiations in Basel and Brussels is precisely the desir- 2 Banking Supervision able balance between centralization in Europe: What to Do? and decentralization. 2.1 Main Trends in Banking Regulation (iv) The gradual transition from the in- At the world level we are observing im- stitutional control (i.e. by institu- portant trends regarding banking reg- tion) to a functional control (i.e. ulation. I cite some of them. by activity). This transition is a (i) The development of self-regulation pre-requisite for a true level play- in banking and finance. The artic- ingfieldandtheimplementationof ulation between external regula- the same activity, same rule prin- tion and self-regulation, namely the ciple. Realistically, for many rea- complementarity or substitutabil- sons, the institutional control will ity between them, has become a keepprevailing butmorefunctional topical subject. Since the mid- control has to be incorporated. 1990s, we have seen self-regulation Given these world-wide trends and procedures developing in over-the- the role of the Basel Banking Super- counter (OTC) derivatives markets vision Committee, Europe and the (leading to what I call OTC+, i.e. EU are not always the relevant dividing OTC plus private clearing houses, line when looking at the dynamics of margin requirements, deposits, banking supervision and prudential etc.) and in some other compart- policy. ments. (ii) The spread of internal control proce- 2.2 Banking Supervision in Europe: dures and techniques within finan- The Current Framework cial intermediaries, brokerage 2.2.1 Taxonomy of Banking Super- firms, etc. vision in Europe (iii) The transition from the Cooke to In the EU three types of supervision the Mc.Donough ratio, which is organization could be distinguished: going to imply the search for a — thecentralbank(CB)model,where newbalancebetweencentralization banking supervision is assigned and decentralization. Each bank either directly to the CB (Italy,

210 Christian de Boissieu

the Netherlands, Portugal, Spain, 2.2.2 The Present State Greece, Ireland, etc.) or to a com- of Cooperation mittee or a commission highly de- The current configuration is based on pendent on the CB (France); three pillars: — the dual model, where banking (i) Subsidiarity does apply to banking supervision is assigned to the supervision, which remains a na- Ministry of finance or to a commis- tional prerogative. The ECB could sion attached to it, or to an inde- exercise a consultative role on a pendent committee. In both cases, large set of issues (article 105 the central bank brings an extensive para 4 of the Maastricht Treaty) technical assistance (for on-site in- and has to back the national com- spections, etc.) but is not the lead petent bodies as regards the pru- supervisor. This formula, which dential control of credit institutions prevails in Germany, Belgium and financial stability (article 105 and Austria (in both countries after para 5). the recent reform) requires a high (ii) According to the rules of the single degree of cooperation between the market, banking supervision takes various supervisors. For instance, place on a consolidated basis. the German Bundesaufsichtsamt Namely, branches located abroad fu‹r das Kreditwesen appeals to are controlled by the home country the support from the Bundesbank; supervisor whilst the subsidiaries — the FSA model, where banking of a bank located abroad fall within supervision lies within the compe- the jurisdiction of the various host tenceofanindependentbodywhich countries. monitors all banking and financial (iii) Both bilateral and multilateral co- activities (banking, investment operation has developed dramati- firms, insurance firms, stock ex- cally during the recent years. Co- change markets, etc.) (the U.K., operation concerning micro-pru- Sweden, Luxembourg, Denmark, dential issues is mainly bilateral Finland where the FSA enjoys the (Memoranda of Understanding, support of the central bank). exchange of information about Despite a growing attention paid to the situation of individual banks, the FSA formula, the institutional con- etc.). It is delicate and even ineffec- vergence within the EU and the euro tive to disclose any confidential in- area has remained moderate. The draft formation at 15 (much more in a reforminGermanyimpliesthecreation couple of years after the first wave of an FSA-type structure functioning in of enlargement). In Europe, multi- close cooperation with the Bundesbank lateral supervisory cooperation whereas the draft law in Belgium keeps mostly relates to macro-prudential the general competence of the Com- questions. It is currently imple- mission Bancaire et Financie‘re (a sort mented through several channels: of FSA) while extending the super- the Groupe de Contact; the BAC visory role of the Banque Nationale (Banking Advisory Committee) de Belgique. composed with the national Treas- uries, the NCB and national supervisors (when they are distinct from thecentralbank)andinvolvedinthe regulation-making procedure: the

211 Christian de Boissieu

BSC (Banking Supervision Com- From the cross-border perspective mittee), comprising the NCBs I also propose to differentiate between and national supervisors (if differ- three configurations: 1. the status quo, ent from the central bank), close to i.e. resorting to the existing network the ECB and strengthening the ex- of cooperation tools: Banking Advi- change of information and conver- sory Committee (BAC), Banking gence regarding macro-prudential Supervision Committee (BSC), policy. GroupedeContact,etc.2.theenlarged cooperation. In comparison with the 2.3 The Main Scenarios present situation, this scenario would Two separate but de facto closely inter- imply to delegate more own compe- twined issues must be distinguished: tence to the existing bodies (BAC, the cross-sector dimension and the BSC) and/or to transform them cross-border viewpoint. into decision-making institutions. The As regards the possible ways to deal Eichel-Brown proposal put forward with cross-sector aspects, for the sake during the Oviedo Council and cur- of simplification, I underline here three rently under discussion clearly belongs cases: 1. the full specialization of super- to this category, as the proposed appli- visors (each one in charge of a type of cation of the Lamfalussy process to the activity: banking, insurance, stock banking field. 3. full centralization of markets, etc.), a pattern which imple- banking supervision through the crea- ments the principle of comparative tion of a single banking regulatory body advantage and something close to at the level of Europe. the assignment rule in the Mundell- Combining the two criteria, we Flemingmodel.Thisformulagenerates come to nine possible scenarios a big challenge for domestic super- (table 1). vision coordination. 2. the Australian Behind the choice of a combination formula or dual model where domestic in this (3,3) matrix, what is at stake coordination leads to two main groups deserves more attention. No doubt of supervisors (the twin peaks the balance between the center and model): the ones in charge of super- the periphery, i.e. the actual degree vising the institutions and the others of centralization/decentralization as monitoring the functioning of capital regards banking supervision and the markets (in France, Laurent Fabius, competition and/or cooperation be- the former Minister of finance, has tween national and European deci- proposed to pass to a scheme close sion-makers, is the priority issue. to this one and it is likely that the But the relationships between the new government is going to endorse ECB and the NCBs on the one hand, this proposal). 3. the full integration the Ministries of Finance all over of domestic supervisors through a Europe are also at stake. FSA-type system. Table 1 Scenarios for Banking Supervision in Europe

Cross-border Cross-sector

Specialization Dual system Full integration Status quo Enlarged cooperation x Centralization

212 Christian de Boissieu

2.4 Some Policy Recommendations basis. The argument relies on the very Amongtheninepossibleconfigurations notion of proximity, which must be (table 1), which one to favor? Many understood by combining geographic, criteria would have to be taken into cultural,informationalandsociological account before arriving to firm and aspects. reasonable normative conclusions. I This criterion combined with the underline three of them. former one leads to support the enlarged cooperation solution (second 2.4.1 Externalities and European row in table 1) which is consistent with Public Goods the specialization or the integration of According to Tinbergen (1954), the supervisorsatthenationallevel.There- tools that generate externalities (either fore a European Banking Commission positiveor negative)mustbeintegrated replacing the national Banking Com- in order to develop (positive externalities) or restrain (negative externalities) their use. We already suggested that externalities between national banking and financial systems are going to extend dramatically. Therefore a banking or financial crisis in Italy or France in five or ten years from now will not be only Italian or French. Due to the conjunction of many missions or a European FSA would spill-over effects, it will become very be much premature. We have to be quickly European (affecting several pragmatic. In 2010 we will have to remember countries) or even pan-Euro- view the existing institutional arrange- pean. Conclusion: the status quo in ment and to see whether the transition banking supervision (first row in from enlarged cooperation to more table 1) is not consistent with the centralization is needed. Anyhow the current and expected state of banking importance of local information will and financial integration in Europe. keep necessitating some decentralization (see, for instance, the supervisory 2.4.2 The Gathering and Treatment role of the regional Feds in the U.S. in of the Relevant Information conjunction with the Board of Gover- IamconvincedthatdespiteInternetand nors). the other new information technologies,local(i.e.national)authoritieswill 2.4.3 Managing the Risk keep their comparative advantage for of Institutions Inflation gathering local knowledge and dealing Under the current circumstances with local information, monitoring do- goods and services inflation is less a mestic banks and assessing their global threat than what I call institutions in- risk exposure. For the future, with the flation, i.e. the creation of new insti- transition from the Cooke ratio to the tutions and newlevels of decision-mak- McDonoughratio,nationalsupervisors ing without abolishing the older ones. willbeinabetterpositiontoimplement Since the 1987 crash we have been Pillar 2, i.e. to exercise their ability to knowingthatcoordinationbetweendo- require additional capital (above the mestic regulators is as challenging as legal 4% and 8%) on a discretionary international coordination, sometimes

213 Christian de Boissieu

more (with the FSA formula as one of supervision and favor the comitology the conceivable solutions). The multi- approach, since they propose to give plication of new bodies at the European specific powers and roles to European level could generate additional coordi- committees. A three-tier model is put nation issues. Are they complementary forward in all proposals: 1. a European to or substitutable for existing national Banking Committee (EBC; in the authorities?Towhatextent?Insteadofa wording of the Eichel-Brown draft) general answer and solution, I would (parallel to the European Security advocate a case-by-case analysis of Committee), deeply involved in the information flows, decision-making legislative and regulatory process. This procedures and of the enlarged coop- EBC would be a reinforced (or aug- erationrequiredbytheprogresstoward mented) BAC; 2. a Banking Super- a more integrated banking and financial visory Group, mainly consultative sector in Europe. and in charge of regulatory convergence (this BSG is an augmented 2.5 About the Lamfalussy Process BSC); 3. a European Stability Forum and Comitology which would transpose at the regional The Lamfalussy Report (2001) brought level the modus operandi of the Financial severalinterestingproposalsinorder to Stability Forum. speed up the legislative process in the Significantdivergencesappearasfar field of investment services, particu- the composition of these various com- larly securities markets. Thereafter the mittees and groups is concerned. In cooperation between national secur- some of the drafts the Treasuries do ities and exchange commissions has not participate to some committees been strongly reinforced by the crea- (the national central banks and the tion of two new committees at the ECB not participating to some other European level. committees). We need a more cooper- What is called today the Lamfalussy ative monetary-fiscal mix in the euro process corresponds to the combina- zone. More cooperation between the tion: specialization plus enlarged coop- Treasury and the NCB within each eration (the space with X in table 1). It country is required as well. appeals to some basic goals: 1. to Generally speaking, comitology strengthen cooperation between na- raises several issues: tional supervisors; 2. to speed up (i) Thecomitologyapproachassumesa the completion of the single market; clear-cut borderline between the 3. to make the decision-making proc- principle and rules (which come ess in the EU more efficient (but also under the competence of the legis- to circumvent existing rules such as lative process: directives, etc.) and unanimity, which could raise many their technical application (compe- political and democratic issues). Must tence of committees more or less we apply the Lamfalussy process to independent vis-a‘-vis the central the banking area? The Eichel-Brown bank, the Ministry of Finance, proposal and the counter-proposals etc.). In practice, this line could by the Eurosystem and the European be rather uneasy to draw. Commission, all currently under dis- (ii) From a theoretical viewpoint, the cussion, are not so different from each developmentofcomitologyappeals other. One way or another they apply to the delegated monitoring para- the Lamfalussy process to banking digm‘ a la Diamond (1984) and to

214 Christian de Boissieu

the principal — agent model inher- see the conjunction of a couple of argu- ent in the delegation scheme.1)In ments: particular, it would be enlightening (i) The fact that externalities are to focus on the right incentives increasing dramatically during structure and the risk of free rid- systemic crises. ing in the Lamfalussy process. (ii) The fact that such systemic crises (iii) Comitology has to go parallel to call for a very quick intervention accountability and to a certain de- by the LLR(s) (e.g. in case of a gree of transparency (vis-a‘-vis the macro liquidity crisis). Centraliza- European Parliament, the national tion or at least an intense coordina- Parliaments, the public opinion in tion could be necessary to acceler- general). I do not believe in the ate the decision-making process. possibilityofimprovingthebanking (iii) The established fact that local supervision cooperation in Europe knowledge is less decisive for significantlyand on a medium-term LLR intervention than for banking basis without democratic support. supervision. Therefore the comparative advantage of national author- 2.6 Crises Management in Europe: ities over European authorities is Concluding Remarks less evident for LLR activities than Whilebankingsupervisionandpruden- for banking supervision since the tial policy are mainly preventive, externalities argument prevails lender-of-last-resort (LLR) interven- over local knowledge considerations are curative. However useful it tions as far as LLR intervention could be, the distinction between the is concerned. preventive and the curative phases of In a paper prepared for the Conseil crises management must not be pushed dAnalyse Economique (Aglietta and too far since, for instance, deposit Boissieu, 1999), we discussed the insurance enjoys the two dimensions. Fischer (1999) proposal concerning The optimal degree of centraliza- the international LLR and we extend tion or coordination is not necessarily the analysis and the policy recommen- the same for supervision as for LLR dations to EMU. My view is that the interventions. In the United States ECB will have to act in the coming years the LLR function rests with the Board as a LLR at the euro area level (and pos- of Governors and the Federal Open sibly at the world level, in case of a Market Committee (FOMC), whilst world-widecrash, etc.), inconjunction banking and financial supervision and with the NCBs. As far as banking super- monitoring is split among Federal vision is concerned, a European bank- entities (the Board of Governors, the ing regulator is premature. For the five Office of the Comptroller of the years to come, a Lamfalussy-type proc- Currency (OCC), the Securities and ess applied to banking supervision Exchange Commission (SEC), etc.), seems to be the best solution, provided regional entities (regional Feds), state that this process be respectful toward or other local authorities, etc. Why the national idiosyncrasies concerning the LLR function requires more cen- the specialization or the integration of tralization than supervision does? I domestic regulatory authorities.

1 A recent and interesting application of this paradigm to the German banking system from 1800 to 1914 is proposed by Guinnane (2002).

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References serve Bank of New York Economic Policy Aglietta,M.,andCh.deBoissieu(1999). Review, July 1999. Le preteur international en dernier ressort. Diamond, D. (1984). Financial Intermedia- In: Architecture Financie‘re Internationale, tion and Delegated Monitoring. In: Review Report to the Conseil dAnalyse Economi- of Economic Studies: 393—414. que, La Documentation francaise. ECB (2000). Mergers and Acquisitions Allen, F., and D. Gale (2000). Comparing Involving the EU Banking Industry. Decem- Financial Systems. MIT Press, Cambridge. ber. Berger,A.,R.Demsetz,andPh.Strahan Fischer,S. (1999). On the Need for an Inter- (1999). The Consolidation of the Financial national Lender of Last Resort. In: Journal Services Industry: Causes, Consequences of Economic Perspectives. and Implications for the Future. In: Journal Guinnane, T. (2002). Delegate Monitors, of Banking and Finance, February. LargeandSmall:GermanysBanking System, Boissieu, Ch. de (2001). Banking Consoli- 1800—1914. In: Journal of Economic Litera- dation in Europe: Some Remarks. Paper ture, March. presented to the Third Saint-Gobain Con- Lamfalussy Report (2001). Report of the ference, Paris, November. Committee of Wise Men on the Regulation Boissieu, Ch. de (2002). Les me«canismes of European Securities Markets. Brussels, de transmission de la politique mone«taire February. dans une Union e«conomique et mone«taire. Padoa-Schioppa, T. (1999). EMU and Paper presented to the Symposium for the Banking Supervision. Lecture at the London 40th Anniversaryof the BCEAO, Dakar,May. School of Economics, February 24. Cecchetti,S.(1999).LegalStructure,Finan- Tinbergen, J. (1954). Centralization and cial Structure, and the Monetary Policy Decentralization in Economic Policy. Transmission Mechanism. In: Federal Re- North-Holland, Amsterdam.

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Urs W. Birchler Urs W. Birchler Director, Head of Systemic Stability Research and Policy, Swiss National Bank

Comments on Christian de Boissieu,

The European Industry

and the Organization

of Banking Supervision

in Europe

Professor de Boissieus paper describes theEUintegrationprocessinthefieldof banking supervision in positive as well as,tosomedegree,innormativeterms. The author discusses the institutional dimension of supervision (who should supervisewhom?) aswell as the international dimension of supervision (what is the optimal degree of centralization?). In both, he takes a clearly European perspective and he argues as an economist. He uses externalities and the distribution of information as factors explaining institutional settings. Prac- tical aspects, including cross-border and cross-sectional issues are given sufficient room. All in all, de Boissieu of- fersaninterestingto read, balanced and circumspect piece. The author is cautious in his policy recommendations. Regarding the institutional dimension of supervision he Urs W. Birchler

takes a pragmatic neutral view on what institutional mechanisms and infor- he calls the central bank approach, the mational arrangements. dual approach and the Financial Serv- Regarding the international dimen- ices Authority (FSA) approach, thus sion of supervision de Boissieu favors largely following Goodhart et al. enlarged cooperation as a middle (1998). I would admit that the old way between national autarky and full world of single purpose institutions centralization.Theauthoralsotakesthe (the central bank regulating the money opportunity to warn against the main supply, the banking authority super- danger of international cooperation, vising banks) is probably a paradise namely the inflation in the number lost. Maybe it was not even a paradise, of institutions. Finally, tackling one as incentive problems and conflicts of the issues in European monetary in- of interest created the dangers of tegration that are not explicitly settled, regulatory for- de Boissieu claims that lending of last bearance or of resort should be more centralized than liquidity provi- supervisory powers. One could argue sionforinsolvent that these policy recommendations, institutions. particularly the one just mentioned, Yet, today are not rigorously derived from the boundaries be- analysis offered in the paper. However, tween institu- it seems more fruitful to focus on the tions tend to basic leitmotiv of de Boissieus paper, become blurred. Central banks are namely the concept of regulatory com- more explicitly accepting their re- petition. sponsibility for systemic stability. Does competition among regula- They are thus increasingly confronted tory systems lead to the survival of with questions traditionally faced by the best rules or to a race to the bot- the supervisors. Conversely, super- tom? Measured against other contri- visory actions may become more butions to this conference, de Boissieu relevant for the macroeconomy. One again is on middle ground, here be- reason is concentration in banking; tween the skeptical view presented another is the potential cyclical by Hans-Werner Sinn1) and the more impact of the more risk sensitive optimist view offered by Gareth D. capital requirements being considered Myles.2) Starting from the skeptical by the Basel Committee on Banking side, I would agree that competition Supervision (2001). It is thus among bank regulators may fail for sev- difficult to take issue with a cautious, eral reasons like the existence of exter- pragmatic approach as advocated by nalities (international contagion, ter- de Boissieu and others. Yet, the rorist finance), network effects, trans- optimal division of tasks between action costs, and information prob- central banks and supervisors lems. As Sinn put it: Since states remains an unsolved problem, and intervene where markets fail, the mar- practitioners can only benefit from ket of states is also likely to fail. any further efforts by the academic Unfortunately, harmonization community to understand optimal mightfailjustaswellasregulatorycom-

1 Please refer to the paper entitled The New Systems Competition by Hans-Werner Sinn published in this volume. 2 Comparethe comments by Gareth D.Myles onHans-Werner Sinn TheNew SystemsCompetition published in thisvolume.

220 Urs W. Birchler

petition. de Boissieu touches upon with regard to the national, rather some very relevant questions like: than an international interest. How can we harmonize implicit guar- There is one dimension in the cen- antees? Can we harmonize banking tralization versus regulatory competi- supervision, but not crisis manage- tion debate that deserves more atten- ment? Who stops the growth of com- tion than it got at this conference, mittees? These are questions the advo- namely the choice among rules within cates of international harmonization ajurisdiction.Oneexampleiscompany will need to answer if they want to have law which in most countries offers in- economists on their side. I would add a dividual firms a menu to choose from. few more: Such a choice among individual rules — Is the EU the right club for harmo- is more likely to lead to a survival of nization? the best rules than the choice among My answer would be: quite defi- bundles of rules nitely not. An optimal regulatory (as represented area might very well differ from by jurisdictions). anoptimal currencyarea. TheBasel It is thus unclear Committee member countries, to me why we hosting most internationally active should bother banks, to my view are a more plau- about product sible candidate for an optimal reg- bundling in the ulatory area. Microsoft case, — Where goes the regulatory labora- e.g., but not in the case of competition tory after harmonization? among jurisdictions. In a similar vein, Tome this is a serious concern. Ex- Sunder (2002) strongly argues in favor isting regulations have been found of competing accounting standards. by trial and error. Adapting regu- The new Basel Capital Accord latory rules to a constantly chang- (Basel II) is a good example of a prag- ing environment thus involves matic and flexible approach that com- making mistakes. Harmonization bines centralization (common stand- probably means that regulatory ards)withchoiceamongamenuofrules mistakes become less frequent (different approaches) as well as with but more expensive. The loss of decentralized application (national im- todays world-wide regulatory plementation). The main rules, laid laboratory may thus involve high down in the so-called Pillar 1, are com- costs in the long run. mon standards supposed to be followed — Are regulatory cartels any more by all countries represented at the Basel stable than other cartels? Committee (and likely to be followed Somecountriesmayperceiveacon- by many more).However,bankswill be flict between their contribution to able to choose individually among dif- international financial stability and ferent approaches: most importantly a desire for improving the compet- among arelativelysimple standardized itive position of their domestic approach, and a more sophisticated banks. As supervisory acts are dif- internal ratings-based approach for ficult to monitor in sufficient detail which two options (foundation and internationally, there are always advanced) are available. The Com- opportunities to free-ride on mittee thus explicitly stimulates com- harmonized rules by applying them petition among rules. A decentralized

221 Urs W. Birchler

element enters with national imple- combination of all three imperfect mentation and application of Basel II. forces. Under Pillar 2, national supervisors De Boissieu and other speakers at are expected to apply the capital stand- this conference have offered interesting ards according to their spirit: Banks and mostly plausible views on many as- shall be asked to hold additional capital pects of centralized versus decentral- wherever they face higher risks than as- ized European institutions. Yet, they sumedintheAccord.Yet,decentraliza- havealsomadeobvious thatmany issues tionopenssomescopeforcompetition; are still undecided. Progress can only the Committee will thus probably want be made through further continued to follow the national implementation research and through interaction of and interpretation of the Accord rather researchers and practitioners, hope- closely. Its task — to find a pragmatic fully very much in the spirit of this and flexible way between (excessive) conference. § centralization and national autarky (potentially leading to an erosion of References standards) — seems to be quite in line Basel Committee on Banking Super- with de Boissieus recommendations. vision. (2001). The New Basel Capital Finally, Pillar 3 defines standards for Accord, (consultative paper, January); disclosure and transparency designed http://www.bis.org/publ/bcbsca03.pdf. to support market discipline. The Goodhart, Ch., P.Hartmann, D. Llewel- Committee thus recognizes the com- lyn, L. Rojas-Suarez, and S. Weis- plementary nature of market discipline brod. (1998). Financial Regulation; Why, and of supervisory discipline. If Sinn HowandWhereNow?Routledge,London. argues that, in controlling banks Sunder, S. (2002). Regulatory Competition risks, the market, the state, plus the Among Accounting Standards Within and market for states may fail, I understand Across International Boundaries. Forth- the Committee to take the pragmatic coming in: Journal of Accounting and Public view that the optimum solution is a Policy.

222

Olivier Lefebvre Olivier Lefebvre Executive Vice President and Member of the Managing Board, Euronext N.V.

Regional

Stock Exchanges —

Is There a Future?

Iused tobethechairmanof theBrussels Exchanges, which admittedly was a regional stock exchange until 21 months ago,whenwemergedwithParisBourse and the Amsterdam Stock Exchange to create the first cross-border exchange in Europe: Euronext. Euronext is now also covering Portugal and last but not least, we acquired the London-based derivatives market LIFFE. So based onthisexperience,Iwouldliketocover two points. First of all, what are the challenges for the regional stock exchanges? We will look at some charts and some other aspects. In the second part we will consider how to carry on and how to try to combine the global approach to size, which is essential, with the local relevance. First some challenging facts. The major event for stock exchanges in Europe is the arrival of the euro. If you look now at the split between euro stockexchangesandnon-eurostockex- changes in Europe, you can see that in terms of market value the stock exchanges within the euro area represent Olivier Lefebvre

Chart 1 Market Value of European Stock Exchanges

EUR billion

Stock exchanges within the euro area Stock exchanges outside the euro area 4,500

4,000

3,500

3,000

2,500

2,000

1,500

1,000

500

0 Italy Oslo Total Total Zurich Lisbon Dublin Vienna Iceland Madrid Athens London Helsinki Euronext Germany Stockholm Luxembourg Copenhagen Source: Euronext.

Chart 2 Market Value of European Stock Exchanges

EUR billion

5,000

4,000

3,000

2,000

1,000

0 1989 1991 1993 1995 1997 1999 2001 April 2002 Stock exchanges within the euro area Stock exchanges outside the euro area Source: Euronext.

ahigher marketvaluethantheonesout- However, if you compare the turnover side of the euro area. The largest one of the large stock exchanges and the out of the euro is obviously London, regional stock exchanges in Europe while the largest one within the euro over the same period, you see a very area is Euronext. If we look at the significant evolution between the impact of the euro on marketvaluation, two. One reason might be that inter- there has apparently been an influence national diversification of portfolios on the relative evolution of the market is asymmetric, meaning that when value of the stock exchanges both diversifying, the investor sells domes- within and outside of the euro area. tic shares and rather switches to a cross- If we look at the turnover, there is border sector-based investment pat- apparently no impact of the euro. tern. By doing so, he first looks at

226 Olivier Lefebvre

Chart 3 European Stock Exchanges Turnover

Index: 1999 average = 100

200

150

100

0 1999 2000 2001 2002 Stock exchanges within the euro area Stock exchanges outside the euro area Source: Euronext.

Chart 4 European Stock Exchanges Turnover

Index: 1999 average = 100

200

150

100

0 1999 2000 2001 2002 Regional stock exchanges Other stock exchanges Source: Euronext. the most liquid shares and obviously the regional stock exchanges within the larger market. It is even more the euro area. striking if we compare the regional The organisation of the equity stock exchanges belonging to the euro market along national borders is not area and the regional stock exchanges relevant any more and no longer outside of the euro area. Wecan clearly matches the behaviour of the market see that the pattern of turnover of participants. Another aspect, another the regional stock exchanges outside challenge and even a driver of the con- suffered much less than was the case solidation in Europe is the construction for the regional stock exchanges and the business model of an exchange. within the euro area. This is another A stock exchange is a provider of an indication that the boost given by the infrastructure with computing ca- monetary union to the diversification pacity, with financial guarantee, with of portfolios was stronger within the financial regulation and credibility en- euro area. Within this zone, the bias hancement. This means a significant has been in favour of the larger stock infrastructurecostbutmeanshighfixed exchanges to the detriment of the costs, relatively low marginal cost: smaller ones. So, that is the first chal- adding an additional listed company lenge for the regional stock exchanges, would not increase the cost very much, and in particular it is a challenge for for adding an additional member the

227 Olivier Lefebvre

Chart 5 European Stock Exchanges Turnover

Index: 1999 average = 100

200

150

100

0 1999 2000 2001 2002 Regional stock exchanges within the euro area Regional stock exchanges outside the euro area Source: Euronext.

Chart 6 Top 5 Most Traded Shares

% of the total turnover

0 Oslo Milan Virt-X Ireland Vienna Prague Iceland Athens Madrid Helsinki London Warsaw Euronext Budapest Stockholm Luxembourg Copenhagen Deutsche Börse

Source: Euronext.

marginal cost is close to zero. So, size cross-border mergers of key listed matters in terms of business profit- companies. ability for a stock exchange. Some On chart 6, you see a sort of indi- smaller stock exchanges try to mitigate cation of the concentration rate of the that as Vienna did for example by using various stock exchanges in Europe, i.e. the technology of a larger stock ex- theproportionofthetotalturnoverthat change. is concentrated on the top five most The third challenge for smaller traded securities. You see that the stock exchanges is the concentration smaller stock exchanges are on the of the activity in a limited number of left-hand side of the graph. In Helsinki, listed companies. I take the example Nokia alone represents 65% of the ac- of Brussels as I know it well. Between tivity. You have the largest stock ex- 1997 and 2000, we lost eight of the changes, Deutsche Bo‹rse, London twelve largest listed companies follow- Stock Exchange and Euronext, with ing mergers and acquisitions: most of the surprising exception of Athens, them by either Dutch or French com- on the right-hand side of the scheme. panies by the way. This means that the This is an important source of concern. impact on profitability as a stock ex- Of course, this should be refined, tak- change can be highly exposed to ing intoaccount theprobabilityofsome

228 Olivier Lefebvre

companiesbeingtakenover.—Isitprob- change fees, on average about 12% of able that Nokia would be taken over by the total cost. The largest part of the another company? — You also have to total cost is the price impact of the consider this from a qualitative and transaction. Obviously on the stock quantitative point of view. Neverthe- exchange already concentrating trad- less,thiscertainlyis asourceofconcern ing on a specific security, the orders for smaller stock exchanges. The ques- on the buy and the sell side will min- tion is: how can we meet these chal- imise this largest component out of lenges? My answer will be based on total transaction cost. Thatis the reason our own experience; I will call it the why liquidity can hardly be moved from Euronext answer. one stock exchange to another. First of all we have to bring a multi- The second difficulty is that if you national dimension, not only an inter- want to force all the activity into national dimension. We have to deliver synergies, that is the size-effect on the cost-side and we have to deliver efficiency. Most Euro- pean markets are very efficient locally, in terms of vertical straight- one jurisdiction, lets say the U.K. ju- throughprocessing fromtrading,clear- risdiction, which is the largest finan- ingto settlement, butonacross-border cial centre in Europe, you will put basis we still have problems. Obviously additional adjustment costs on the we have to gain credit. shoulders of the clients of stock ex- If you look at a way to reduce Euro- changes, either issuers, listed compa- pean fragmentation and to consolidate nies or even members because they the market in terms of equity trading, will have to act mostly in a different you basically have two views. The first, jurisdiction than the one they are old view, is to claim, as a stock ex- familiar with. change, that you are pan-European and Last but not least, it is a negation of try to attract all the activity to your ini- the home market value, which remains tialjurisdiction.Ithastraditionallybeen important in the equity market. The the attitude of some large stock ex- equity market is a market based on changes, e.g. London or Frankfurt. It information and obviously issuers has also been the ambition of some benefit from a sort of free informa- new commerce in the market: Trade- tion in the country or in the region point a few years ago, now Virt-X and in Europe they are coming from. This Jiway and some others: these initiatives is obvious for smaller and mid-sized did not succeed until now. The main issuers in Europe, but also for larger reason is that liquidity is sticky. You issuers: if you look at their shareholder do not move liquidity from one stock base, you still see a national bias. Look exchange to another easily. The reason at Deutsche Telekom — obviously a big isverysimple,i.e.whenyoutradeequi- one —: despite of an international ties, the total transaction cost is for a shareholdership, it still has a German minor part composed of the stock ex- bias, while France Telecom would

229 Olivier Lefebvre

have a French bias in the shareholder- is basically the way we are structuring ship. We have to find a solution the market. which combines the global and the Practically, how did we do that? local dimension. Basically it is the Initially we started with three jurisdic- approach that we have developed at tions when we merged and we kept our Euronext by saying: if we cannot licenses as a regulated market in the move the liquidity from one stock sense of the European directive in exchange to the other, lets buy it, the three jurisdictions. Some people apply an active merger and acquisi- say we do that for political reasons. tion policy, lets put all these liquidity No, it is not for political reasons, pools on the same systems in order but for commercial reasons, to be close to bring synergies and accessibility to the customer. Because this gives us while keeping the local attributes the possibility to offer to the listed for the members and the issuers. That companies or the members the choice is the way to bring continuity to them of the entry point to Euronext. and to offer the additional value of a At the same time we unified the larger dimension, without asking them market, not only by putting it on a to move from one country to another, single technical platform, the NSC which would make little sense. This platform, but also by creating a

Chart 7 Strong Position in the Equity Market

Number of listed companies on regulated markets Central order book trading value at December 31, 2001 at December 31, 2001 Number ERU billion

2,500 1,500

2,000 1,200

1,500 900

1,000 600

500 300

0 0 Milan Milan Zurich Zurich London London Frankfurt Frankfurt Euronext Euronext Stockholm Stockholm

Market capitalisation at December 31, 2001 EUR billion

2,000

1,500

1,000

500

0 Milan Zurich London Frankfurt Euronext Stockholm Source: FIBV, Fese, Euronext December 2001.

230 Olivier Lefebvre

cross-border rulebook, the so-called As for vertical integration, that is Rulebook I in the Euronext jargon. vertical straight-through processing By doing that, we combined the local from trading to clearing and settle- and the global dimension. ment: contrary to Deutsche Bo‹rse, The beauty of the model is also we have decided not to take control that you can generalise it by adding of settlement but to sell our settlement other jurisdictions as we now do for activity to Euroclear in a more hori- Portugal and for the U.K. for the zontal approach of the various stages. derivatives market. Synergy obvi- I will not elaborate on that. ously really pays off when three If you look at the structure of the systems, four,five,maybe more,merge exchange industry, we now have three into one system. This has been done big players in Europe for the equity for the cash market. We will do the market. On the derivatives market, same for clearing and settlement and consolidation is done in Europe, basi- for our derivatives market, where callywithtwomajor players,Eurexand we today operate seven different Euronext, including LIFFE. By theway, systems. these first two European derivatives

Chart 8 Strong Position in the Derivative Market

Number of contracts traded in 2001 European ranking on index options Million Million of contracts traded in 2001

600 120

500 100

400 80

300 60

200 40

100 20

0 0 CME Milan MEFF Eurex Eurex LIFFE LIFFE CBOE CBOT AMEX Euronext + Euronext + OMStockholm Stock Exchange

European ranking on equity options Million of contracts traded in 2001

200

150

100

0 Oslo Milan Eurex +LIFFE Euronext OM Stockholm OM Stock Exchange Stock Exchange

Source: FIA, Eurex, Euronext.

231 Olivier Lefebvre

markets are also the largest two in the mension in the exchange business. We world, larger than the four derivatives do not believe that concentration of the markets in the U.S. equity activity will happen basically by So, an important aspect from a cli- moving everything into, lets say, one entpointofview,fromanissuerpointof jurisdiction, for example in London. view, is that they want to see their vis- This would increase the cost of capital ibility enhanced by a merger of ex- for local or smaller issuers in Europe changes.IfyoulookattheshareofEuro- andIdonotthinkthatthisisthepurpose next-listed companies in for example of the game. The purpose of the game the MSCI, a European index, you really is to keep the value of proximity, can see that no serious investor world- keep the value of the regional market, widecanaffordnottohaveaccessinone the regional dimension and, at the same way or the other to such a large stock time, combining that in terms of cost exchange. If I remember the position of exposure synergies and accessibility Belgium before the merger, it was ab- with a true international dimension. solutely not obvious that we would be a That is basically what we are trying must for an institutional investor. So, to achieve with Euronext. this enhanced exposure is certainly Now I conclude with two brief bringing value for the issuers. comments in saying first of all that Now let me conclude a little bit we are very optimistic on the fact that bluntly on the question that was raised: we will deliver and we have already is there a future for regional stock ex- delivered a number of steps in this changes? The answer, I am afraid, is integration. We will continue to do no, not on a stand-alone basis. The so. I have to be modest, if you ask consolidation is bound to go on in me:doweseealreadytodaythepositive Europe one way or another, but there impact for example on the turnover of is still relevance to keep a regional di- the Belgian companies at this stage?

Chart 9 MSCI Pan-Europe Index

January 2002 Switzerland 10.81% Finland Euronext (A, B, P, L) 2.93% 25.13% Spain 4.49% Greece 0.40%

Denmark 1.10% Sweden 3.19% Norway 0.50%

U.K. (London) Germany 33.52% 11.15%

Ireland Italy 1.17% 5.62%

Source: MSCI.

232 Olivier Lefebvre

I say no, that obviously is too early. In The second comment I would like fact, we should have more time to look to make in my conclusion is that this at this in terms of turnover for all re- is our recipe. We do not pretend that gional stockexchanges now included in it is the only one. But the challenge Euronext, notably because the integra- for regional stock exchanges is very tion is not yet completed. It will be serious and this is a possible route to about one year from now,from trading mention. § to settlement.

233 Stefan K. Zapotocky Stefan K. Zapotocky Joint-CEO, Wiener Bo‹ rse AG

The Challenges and Chances

of Regional Exchanges1)

1 Introduction The last decade has seen a long-lasting boom on stock markets, especially in theU.S., which hasled toaproblematic development for a number of small regional markets with respect to their function as a source for raising capital: The large stock markets experienced a surge in the liquidity volumes of large institutional investors, especially of U.S. pension funds, which soon led to the concentration on a few liquid stocks with relatively high levels of capitalization. In Germany alone, for example, about 85% of the trading volume is in the 30 DAX stocks. The phenomenon of the passive index management strategy pursued by large funds with their year-long practice of asset allocation according to the regional and sector weightings of a few international index systems (such as the MSCI, STOXX 50, etc.) augmented the global concentration on investments in a few hundred, mainly Anglo-American stocks. At the same time, the outflow of capitalfromEuropeanregionalmarkets that had high concentrations of small

1 This paper has been published in: Socie«te« Universitaire Europe«enne de Recherches Financie‘res (SUERF). Is There a Future for Regional Banks and Regional Ex- changes? The Strategies of Selected Austrian Finance Institutions. SUERF Studies, No. 19, 2002. Stefan K. Zapotocky

caps andmidcaps accelerated,affecting exchanges, and the scenarios of how precisely markets like the Austrian stock exchanges are responding to capital market. the current challenges, especially Even after the collapse of the new within Europe, I will focus on the start- economy boom (in 2001: Neuer Markt ing situation and development possibil- —60.10%,NASDAQEurope—64.15%, ities of Wiener Bo‹rse as a regional and NASDAQ U.S.A. —24.54%) several national stock market. hundred massively overvalued stocks stood in stark contrast to thousands 2 International Develop- of undervalued stocks. ments in the Stock The significant function of (re- Market Environment gional)capitalmarketsfor theeconomy 2.1 Benchmarking Capital Markets and for local policy goals, growth and Efficient capital markets form the op- employment is thus at high risk: this is timal interface between supply and precisely where the challenges and demand for capital (chart 1). chances lie for thefurther development At the same time, they also make a of efficient regional stock markets such crucial contribution to wealth creation as Wiener Bo‹rse and the Austrian cap- and corporate government improve- ital market. In the following, I am going ment (chart 2). to investigate whether or not the grow- Studies in Germany and the U.S. ing trend of consolidation and concen- prove that listed companies with the tration among international exchanges option of raising capital externally also invariably leads to the dissolution of make a major contribution to the regional exchanges, especially national development of the labor market stock exchange systems and what alter- (chart 3). native strategies are feasible, using the Financing of takeover deals is in- example of Austrian capital market as creasingly being done through the ex- a model. changeofshares—thecompanywiththe Starting out from a general discus- stronger sharesoftenhasanadvantage sion of the major international bench- over a company of equal value without marks for capital markets and stock an adequate exchange listing (chart 4).

Chart 1 The Market Place for Capital

Interface Supply Demand for capital The capital markets of capital

Government Households Banks Pension Funds Municipals Mechanism by which supply and demand Insurance Co.s

for capital are matched Domestic Large companies market structures Investment Funds supervision Venture Capital policy Mid-market and Small companies FDI Foreign Portfolio

Individuals Foreign Foreign Lending

Source: BCG analysis.

236 Stefan K. Zapotocky

Chart 2 Wealth Creation as Well as Corporate Improvements

Driven by Developed Capital Markets

· Long term opportunities for investors to diversify risks and increase returns · Improvement of corporate governance · Companies have increased access to risk capital and more flexible financing choices · New sources of capital based on increased foreign investments · Increased entrepreneurial behavior

Chart 3 Top Performers as Employment Drivers

Germany United States of America

Ø annual TSR Ø annual Additional jobs Ø annual TSR Ø annual Additional jobs 19871996 employment 19871996 19871996 employment 19871996 compared growth1) compared growth1) to total market 19871996 to total market 19871996

+26.3% 114,000 187,000 +18.3%

10 best +9.6% 10 best +3.0% performers performers

64,000

66,000 10 worst 10 worst +0.8% +0.9% performers performers

5.4% 11.9%

Source: Datastream; BCG Top Performer Study; BCG analysis. 1) Including acquisitions.

Chart 4 Financing of M&A Deals Acquisition Currency

90 19 27 23 80 36

56 60 30 50 50 40 48

30 52

20 39 51

10 25 27 12 0 5 1988 1992 1996 1997 1998 Stock Cash/Stock Cash

Source: CSFB, WBAG analysis.

237 Stefan K. Zapotocky

A breakdown by market infrastruc- — Attractive range of products on the cash ture, exchange systems, investors, is- and derivative markets. suers and financial intermediaries — Transparency forall marketparticipants. shows the main factors in the ranking — The highest possible market capital- of successful European stock markets: ization and a higher free float to achieve: Infrastructure of Capital Markets — optimal liquidity — The existence of an independent — highestpossiblenumberofefficient supervisory body with comprehensive market participants who are op- and far-reaching powers of inter- timally equipped vention and control to prevent market abuse (insider trading, Investors frontrunning, non-disclosure of — Growing significance of investor important company news, etc.). protection to prevent violations — The existence of an independent by intermediaries (dealers) and is- takeovercommissionwithfar-reaching suers. powers of decision in the case of — Massive increase in the investment takeovers of listed companies. volumes of retail and institutional — EU compliant legislation for all as- clients. It is precisely this trend that pects of the legal framework of the runsagainsttheexpansionofinvest- capital market. ment opportunities and also con- The work in this area will be final- tributes to the current phenom- ized by 2005 — according to the inten- enon of the overvaluation of few tions of the Commission — and will investment instruments. include more or less harmonized rules — Beside higher investor protection and regulations for the admission to standards, market transparency listing, listing prospectuses and super- will play an increasingly important visory tasks. I hope that these efforts role as a benchmark. will not create hypertrophic central authorities, but efficient, optimally Issuers harmonized decentralized systems, — Astrongerfocusonshareholdervalue. which will be especially important — Ad hoc disclosure of price-sensitive for the improvement of the framework information. for the development of regional capital — Use of corporate governance rules markets. modeled after the Anglo-American system. Stock Exchange Structure — More active investor relations. — The use of state-of-the art trading — Moreneedfor newopportunitiesto and clearing systems with optimized raise capital through capital markets cost structures embedded in interna- (cf. Basel II). tional networks and operating in a closely knit and coherent value Financial Intermediaries/ chain. Trading Participants — A market segmentation according to — Liquidity providers and market criteria relating to issuer quality makers will play an increasingly im- (disclosure practice, free float, portant role for maintaining mar- reporting practice, etc.) and which kets with high trading volumes. is easy to understand and use. Trading systems without market

238 Stefan K. Zapotocky

making commitments are at a dis- a few leading exchanges (a center field advantage even now. group)andmanysmallnicheexchanges — Direct distribution channels to end with low market shares. customers — especially via efficient The consolidation that had been ex- brokerage platforms for retail cus- pected in Europe for a while now and tomers and institutional investors was believed to result in two central trading directly. exchanges at most within the next — The higher degree of transparency few years has become much less likely in markets andthe easy comparabil- than at the time the first 3 to 4 large ity due to the euro will increase the alliances with differing structures were pressure to install an optimized fee formed (full merger and use of joint structure. platform, keeping regional independ- — More competition through trading ence). Even now, there are signs of volumes. group formations (chart 5). 2.2 Capital Market Trends in the EU According to Currently,thereareabout30national— the study cited andwithin states also smaller regional — above by Accen- stock exchanges in Europe that operate ture, 70% of all about 14 different trading systems. experts inter- Clearing and settlement is carried viewed expect out through some 20 different national to see a common institutions. Only two of these institu- path towards consolidation as regards tions are focused on international trading platforms and clearing and markets or are investing efforts in settlement institutions. supranational activities (Clearstream It is precisely in the area of clearing and Euroclear). and settlement that the consolidation According to a study by Accenture, pressure to create a more competitive Europeanstockexchanges(over30 tra- European approach vis-a‘-vis the U.S. ditionalexchanges)canbegroupedinto markets is much stronger than in the

Chart 5 Alliances in Europe

Only two stock exchange alliances are operative Euronext Xetra-Group · Belgium (BSX) · Germany · France (SBF) · Austria · Netherlands (AEX) · Ireland · United Kingdom (LIFFE) in process · Luxembourg Eurex (derivatives exchange) · Portugal · Germany · Switzerland Norex Nordic Exchange Alliance · (Finland) · Sweden (OM) · Denmark (CSE) NEWEX · Norway (OSE) · Germany · Iceland (ISE) · Austria

239 Stefan K. Zapotocky

Chart 6 Exchange Reactions to Industry Trends

Binding of Issuers · Implementation of new segments (e.g. Star Segment) · Increased service level (IR support)

Binding of Institutional and Retail Investors · Decline of trading fees · Special programs and services for investors · Increased transparency · Shift to higher level of investor protection through stricter reporting requirements for issuers · Introduction of corporate governance rating · Increased marketing · Special education programs

Outsourcing or Leveraging of IT Development · IT outsourcing (e.g. Dublin, Vienna, Helsinki) · Facility management (e.g. DB, OM, SBF)

Product Diversification · Regional offshore markets (e.g. EAGAK, Newex) · New products (e.g. energy, ETF, etc.) · Value added services (e.g. IT, training, consulting)

Value Chain Integration · Integrated Value Chain from Exchange to CSD (e.g. DB, Euronext)

Growing Trend to Alliances Two Main Forms · Mergers (e.g. Euronext) · Loose form of alliance (e.g. Norex)

areaoftradingsystems.ThelargeEuro- 3 Developments on the pean stock exchanges that use systems Austrian Capital Market like Xetra and the trading platforms 3.1 Starting Situation Euronext, Virt-X and OM group al- Bonds, which have always dominated ready have strong market positions. the Austrian capital market, especially Thereisanenormousimprovementpo- those issued by the public sector and tential in closing the value chain within banks, were supplemented by equity the stock markets (from trading to issues only as late as at the end of clearing) and within the context of the 1980s, when a timid revival of European integration and consolida- stock issues and stock trading on tionofclearingandsettlementsystems. Wiener Bo‹rse took place after a break Stock exchanges will respond to all of actually 70 years. The trading vol- these challenges by creating sets of umes and market capitalization in equi- measures of which the main ones are ties started to grow on Wiener Bo‹rse listed in chart 6. only as of 1987, especially due to the privatization of formerly state-owned

240 Stefan K. Zapotocky

Chart 7 Turnover in Domestic Shares From 1981 to 2000

Thousands

350

300

250

200

150

100

0 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 Source: Wiener Börse AG.

Chart 8 Market Capitalization Domestic Shares to the Ultimo of Each Year

EUR billion

0 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 Source: Wiener Börse AG.

Chart 9 Corporate Bonds Issuing Volume Corporate Bonds EUR million

600

500

400

300

200

100

0 1996 1997 1998 1999 2000 2001

Source: Wiener Börse AG.

241 Stefan K. Zapotocky

companies and a few private IPOs among other things, the dramatic (chart 7 and 8). changes in risk margins of banks that Corporate bonds also experienced will become necessary after Basel II a revival, though only as of 2001. This (chart 9). trend will become stronger and take a On the whole, the capitalization of place alongside the predominant loan the stock market is only 13.1% of GDP financing among businesses due to, (= EUR 30 bill) and below average

Chart 10 Current Situation: The Austrian Capital Market Is Underdeveloped

Comparison of European Markets 20001)

Trade velocity2) Ø = 109%

1.8 GB3) DE 1.6

3 1.4 SE ) IT 1.2 1.0 NO3) NL3) 0.8 PT Ø = 0.9 CH3) 0.6 F F PL 0.4 0.2 AT Market capitalization B LUX per company in USD billion 0.0 Development 0.2 from 1999 to 2000 0 50 100 150 200 250 300 350 Significance of the capital market in %4)

Source: Datastream; FIBV 2000; Economist Intelligence Unit; BCG analysis. 1) All data exclusively for domestic listed companies. 2) Trade velocity = Trade volume of shares in 2000 according to trading system view in comparison to 2000 market capitalization; low level of free float as dominant reason for Austria's low trade velocity. 3) According to regulatory view, due to trading system view being unavailable. 4) Market capitalization as % of GDP (1999 due to unavailability of data for 2000).

Chart 11 Major Reasons for Underdevelopment of the Austrian Capital Market

Lack of sexy stocks Specifics of Austrian companies no industry top performers insignificant growth segment small not listed Unattractive ownership structure of listed companies acquisition targets Low quantity Low quality small free float high concentration of crossholdings of supply of supply Weak fundamentals Underdevelopment of venture of listed companies capital market (IPO pipeline) Low Under- Low shareholder value liquidity performance orientation of companies Little interest of investors Low level of private stock Low level of domestic stock ownership in Austria Low demand Low demand investments by Austrian of retail of institutional asset managers investors investors Low demand of (international) Specifics of Austrian pension system institutional investors low weighting of Austria in international portfolios In addition reasons for underdevelopment also in current market infrastructure Limited alignment of strategies of major market players

Source: BCG analysis.

242 Stefan K. Zapotocky

in a European comparison, a situation managed by domestic market partici- which is unsatisfactory for the future pants: less than 2% of the strongly equity capital needs of the Austrian growing volume of money invested economy (chart 10). in funds is invested in Austrian stocks A study commissioned by Wiener (chart 12). Bo‹rse, the Federal Ministry of Finance While the amount invested in and the Oesterreichische Nationalbank Austria in domestic stocks is less than (OeNB) conducted by Boston Consult- EUR 2 bill, this share in Germany is at ing Group states the following reasons least13%ofGermaninvestmentfunds, for this situation (chart 11). for example, which corresponds to at The dilemma of the Austrian mar- leastEUR90bill.Thisis40timesmore! ket is clearly illustrated by the current Although successful in steadily structure of Austrian investment funds raising the interest of private investors Chart 12 Dominance of Austrian Bonds in Austrian Investment Funds Declining

Total Austrian Market in EUR billion 21.6 28.4 38.1 51.9 74.9 86.1 % 0.0 0.0 0.1 0.4 1.8 4.4 Foreign issuers 24.3 80 25.5 29.3 28.2 Investment certificates1) 33.6 35.3 Bonds 10.0 10.7 60 0.1 0.0 13.1 15.8 Equity 0.1 2.3 19.8 Austrian issuers 19.8 Investment certificates1) 40 6.7 63.4 61.8 9.8 Bonds 55.4 50.9 20 Equity 36.1 28.7 0 2.2 2.0 2.0 2.4 2.0 2.0 1995 1996 1997 1998 1999 2000 Source: OeNB, BCG analysis. 1) Fund of funds.

Table 1 Venture Capital Is the Main Source for IPOs

IPOs Participation VC VC—Partner of FGG 1999 AvW Invest — — CyberTron x x Libro x x Palfinger x x

2000 BetandWin x x Feratel — — JoWooD x x Head — — HTA x x PerformanceAG x — Stage1.cc x x Telekom — —

2001 Teletrader — — BLUeBULL — — Euromarketing x — Andritz x — CLC x x webfreetv.com x — Admiral — — Æ 19 Æ 12 Æ 8 Source: Factbook 2001.

243 Stefan K. Zapotocky

(in1997, theyearof the stockexchange instruments of equity and external reform and the foundation of the new capital need to be developed in a joint Wiener Bo‹rse AG as a single cash, effort with potential issuers and re- derivativesandcommoditiesexchange, gional retail and institutional investors onlyslightlylessthan4%oftheAustrian as well as with domestic and foreign population owned shares1) and by 2001 investment banks and trading partici- it went up to 7%!), a lot remains to pants in the Austrian market. be done in order to catch up with There is no other stock exchange the Western European average. organizationthatisbetterqualifiedthan A very positive contribution to Wiener Bo‹rse, being specialized in the the development of an adequate base regional economic area of Austria, to for further stock transactions on the organize a platform for the listing of Austrian capital market was provided new issues and trading in equity and debt capital for the Austrian market. It is also the only stock exchange organization that has a direct interest in the development of the domestic capital market. by the privatization projects (cf. Wiener Bo‹rse AG will implement OMV, VOEST, Telekom, etc.) and the following projects in the future: the still small but growing venture — The organization of an inexpensive capital scene. An attractive, specifically market model that optimizes Austrian instrument for promoting the liquidity for trading in the cash formation of the equity capital base of and derivative markets. young companies is the equity capital — Quality segmentation and surveil- guarantee of the Finanzierungs- lance of the market (cf. prime mar- garantie-Gesellschaft (FGG), which ket). is considerably involved in preparing — Best possible services offered to re- Austrian companies for a going public gional issuers in the area of stocks (table 1). and bonds (new growth segment: corporate bonds): 3.2 Six Hypotheses — Support for IR strategies on the Positioning of Wiener Bo‹rse — Consulting services in prepara- as a Regional Stock Exchange tions for public offerings and the Austrian Economic Region — Optimal support for the market in a Single European Market environment for private investors. Hypothesis 1 — Flexibility in the new design of The establishment of a strong capital products. market in Austria is vital for maintain- It is precisely the small and me- ing and expanding the region as a busi- dium-sized structure of the Austrian ness location and for securing stability economic area that calls for this type in the labor market. Efficient, tradable of specialized strategy. The potential

1 Excl. funds.

244 Stefan K. Zapotocky

for boosting the capital market is high ing services offered by Wiener Bo‹rse and definitely exists: AG makes it extremely competitive The percentage of the population of over alternative competitors. private individuals owning shares is currently7.5%anditshouldbepossible Hypothesis 4 to increase it to 12% to 15% by 2005. Optimally organized and internation- The capitalization of the Austrian ally integrated regional exchanges stock market is currently EUR 30 bill contribute substantially to improving and only about 13.1% of the GDP.Fur- the quality of decentralized, regional ther privatizations and IPOs by private markets. Not only with respect to companies on Wiener Bo‹rse should the ongoing monitoring of quality help to raise the percentages consider- and disclosure standards for listed ably in the next 5 to 10 years. companies, compliance with trading

Hypothesis 2 By using the international trading platform Xetra on the cash market, Wiener Bo‹rse is actively involved in the alliance of the Xetra Group of Deutsche Bo‹rse Frank- norms and the efficient settlement of furt. This means that the stock market transactions, but also with respect to in Vienna and with it the Austrian cap- the high degree of legal certainty ital market is not a regionally limited achieved by closely collaborating one, but rather globally accessible. with supervisory authorities. The trading participants (remote Moreover, the activities of a well- members) are linked either via direct functioning, specialized regional ex- lines to the Xetra system or since change are crucial for maintaining October 2001 via the Internet broker many areas of work for the region in system of Wiener Bo‹rse. This makes it the fields of banking and finance indus- possible to take advantage of the bene- try, law and fiduciary service, consult- fits of the technical and economic as- ing, etc. pectsofaninternationalstockexchange Trainingandeducationinstitutions, alliance for a regional market and to especially also universities benefit create inexpensive structures. greatly from these activities. The creation and preservation of jobs in a Hypothesis 3 region that requires highly qualified The direct vicinity of regional ex- staff profit in particular from the activ- changes to local markets, as in the case ities of the local exchange. of Wiener Bo‹rse AG, and the direct broker platforms of the banks and trad- Hypothesis 5 ing participants are used for gaining The technological revolution in trading more private investors by taking cus- and settlement systems and the techni- tomized measures to meet the needs cal feasibility of inexpensive, virtual of such regional markets. The addi- pseudo exchanges in conjunction tionalrangeofinformationandmarket- with the one-sided arguments for min-

245 Stefan K. Zapotocky

imal system costs have brought to light electronic trading and information sys- the main tasks of an exchange, namely: tems anyway. — Optimal framework for local companies wishing to raise capital. Hypothesis 6 — Fullindependencefromallinvolved EveninaneconomicallyunifiedEurope customer groups (market partic- with one single currency the specific ipants, investors, issuers)especially cultures and languages of the different from the trading interest of the countries or regions will last. To mo- large global banks. tivate and mobilize the regional poten- — Attainment of the highest possible tial will require a future organization trading volumes in a single security that truly represents the unique char- instead of the dispersion of possible acteristics of the region. That way an volumes across several competing optimallystructuredregionalexchange alternative market systems. will be an integrative partner of a Euro- Thisshouldbetakenintoaccountall pean platform and a local marketing the more considering that a modern re- specialist with an optimal marketing gional exchange such as Wiener Bo‹rse strategy to meet the local needs of their AG offers the advantages of efficient region. §

246

Gertrude Tumpel-Gugerell, Tagungsvorsitz/Chair Alexander Italianer Richard Portes Sinikka Salo Gerhard Schwo‹ diauer Podiumsdiskussion:

Regionale Wirtschaftsstrukturen —

Wie viel Divergenz ist tragbar?

Panel:

Regional Economic Structures —

How Much Divergence Is Sustainable? Gertrude Tumpel-Gugerell Vice Governor, Oesterreichische Nationalbank

Introduction

It is a pleasure for me to open the last particular, the start of the Economic session of our conference which deals and Monetary Union (EMU) has re- with regional economic structures and duced the volatility of GDP growth the question of how much divergence rates across economic regions over is sustainable. These issues are closely the past decade. Business cycle instabil- related to both real and nominal con- ity tends to shift from the production vergence, which are the cornerstones side to financial assets. Financial cycles of the proper functioning of a monetary have become broader and more com- union. plex and these financial cycles play an increasing role in the business cycle. Factors that may have triggered real cycles are not only shocks resulting from economic policy (EMU) and exogenous shocks What does the last decade show us like productivity shocks, but also en- about nominal convergence in the euro dogenous factors, in particular erro- area? Since the beginning of the 1990s, neous expectations by households we have undoubtedly seen a conver- and companies. gence of nominal variables such as in- Recently, however, we have seen a flation rates, market interest rates, and standstill — and in some cases a turn- the reduction of budget deficits and around — in the process of nominal con- debt levels among EU Member States. vergence within the euro area. This is The rules-based fiscal policy as defined the case both for public finances as well by the Maastricht Treaty and, subse- as for inflation, where divergence is quently, by the Stability and Growth presently growing. The slowdown in Pact, has contributed to improving economic growth contributedto grow- public finances across different EU ing fiscal deficits in some countries, Member States, as most countries have whileotherscontinuedfiscalconsolida- reduced their debt-to-GDP ratio and tionirrespectiveoftheeconomicdevel- improved their budgetary positions. opment. This process has been accompanied Some observers view the present by long-term movements toward real divergence of inflation rates among convergence of income levels. EU countries in the euro areawith growing Member States with lower per-cap- concern: inflation rates of countries in ita-income have significantly caught the euro area currently range from up with the living standards of more 1.6% in Germany and Austria to advanced Member States; being sup- 5.0% in Ireland. Some explanation ported by structural and cohesion might be found in the Balassa-Samuel- funds. Moreover, the growing eco- son effect of higher inflation rates in nomic integration of Europe and, in countries catching up. On the other

250 Gertrude Tumpel-Gugerell

hand this effect cannot lay at the budgetary sensitivities to the economic grounds of the Netherlands high infla- cycle across countries or whether there tion rate of 4.2% in May 2002. The isadangerofdeviatingfromthestability question iswhether this isaseriouseco- path of the last years. nomic problem for which a policy an- Those are questions which are of swer is needed or whether it is just a high interest, in particular at the dawn matter of fact that inflation rates vary of an enlargement of the European from one economic region to the other Union. I hope our distinguished panel — within a monetary union or even will give some answers to those ques- within a country. A further question tions and shed some light on the issue of is whether temporarily diverging fiscal convergence and divergence in a mon- balances are an indicator for different etary union. §

251 Alexander Italianer Director, European Commission Oliver Dieckmann European Commission

Are Divergent Macroeconomic Performances in a Monetary Union a Reason to Worry?1)

1 Introduction Certainly this list could easily be The first three years of the euro areas extended, but this would widen the existence have reminded economists scope too much. Here budgetary of the need to monitor carefully diver- policy or labour market performance gences in macroeconomic performan- cometomindasanexample.Asregards ces across the participating economies labour markets, differences in human and to think about the extent to capital matter for economic growth, which such divergences are sustainable market rigidities affect the cyclical pat- inamonetaryunion.Therelevancewill tern of employment, wage settlements even increase further with the perspec- are an important determinant of infla- tiveofEUenlargementandtheeventual tion diversity and migration affects participation of new Member States in external imbalances. the euro area. However, the issue of a symmetric shocks and the availability 2 Economic Growth: of adjustment instruments to those Convergence shocks already figured prominently and Divergence in the early literature on the Economic The study of convergence has been on and Monetary Union (EMU).2)Over the agenda for decades in economics the years the issue of diverging per- andtheemergenceoftheNewGrowth formances has become a domain that Theory in the second half of the has many angles to it. This article will eighties has stimulated research and focus on four points: provided us with numerous of studies (i) the longer-term developments as onthetopic.3)For manyofthemandfor far as economic growth in the the topic of convergence and diver- Member States is concerned, gence in EMU a story Milton Friedman (ii) businesscycle synchronisation across has told ten years ago appears still economies and prospects for cycli- relevant.4) cal convergence in the euro area, Friedman told the story of Francis (iii) inflation diversity andwhy it should Galton, a cousin of Charles Darwin, be a subject of attention, but not who studied human height, especially necessarily a matter to worry about the relation between the height of once it has been identified, and parents and children. He examined a (iv) external imbalances and their sub-sample of fathers selected for their relevance in a monetary union. exceptionally high stature, and noted

1 Disclaimer: the views expressed in this paper are those of the authors and do not necessarily correspond to those of the European Commission. 2 See Emerson, M., D. Gros, A. Italianer, J. Pisani-Ferry, and H. Reichenbach (1992). One Market, One Money. Oxford University Press. 3 Seee.g.Barro,R.J.,andX.Sala-i-Martin(1998).EconomicGrowth.MITPress;andSala-i-Martin,X.(2002).15Years of New Growth: What Have We Learned? In: Loaiza, N. (ed.) The Challenges of Economic Growth. Central Bank of Chile, forthcoming. 4 Friedman, M. (1992). Do Old Fallacies Ever Die? In: Journal of Economic Literature, December, 30(4), 2129—32.

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thattheirsonsexhibitedonaveragestat- the richer ones. Does this mean that ures closer to the mean stature of the there should be no reason to worry general population than to the mean about growth divergences in the height of the tall fathers concerned. short run? This has been interpreted as a regres- The answer to this question cannot sion towards the mean. Obviously a be unequivocally negative. The Barro- similar finding could have been demon- regression models disregard many of strated for exceptionally short fathers the factors that are important for eco- and their children. Galtons fallacy was nomic growth like technological towrongly infer from thesevalid obser- shocks, externalities, labour force vations that a general contraction of the characteristics,humancapital, thelegal spread of heights in the population was framework, etc. Moreover many of takingplace;areductioninthevariance the empirical studies suffer from of heights. And it is such an (invalid) in- ferencewhich economists risk drawing when searching for convergence and divergence. This fallacy denotes a problem arising when convergence (or divergence) is tested shortcomings like the aforementioned in a cross-country framework (often Galtons fallacy. So it seems too simple referred to as Barro regressions), a not toworry about growth divergences point of particular relevance to the only on the basis of such stylised con- EU integration process. vergence models. A large number of economists have The conclusion to be drawn is that tried to answer the question as to even in the presence of convergence whether economies tend to converge phenomenaintermsofincomepercap- to similar levels of per-capita income ita, and therefore of diverging growth in the long run. In the simplest eco- ratesoveralongerperiod,thereisevery nomic models the answer will always interest to smoothen the variations be yes since capital will migrate around these growth paths. If all policy- across borders as long as rates of return makers in a monetary union support differ. Thus, countries with lower in- efforts in this direction, there is no par- come levels can be expected to expe- ticular reason to worry about sustained rience faster growth. Many empirical economic growth differences. studies have tried to find evidence In the euro area many efforts have for this hypothesis, often based on been made to put in place an environ- simple regression techniques, and ment that is conducive to stable eco- found that countries with an initially nomic growth. And the results dis- lower income would display higher played in chart 1 indicate a substantial rates of growth. If this hypothesis success of these efforts. If one disre- were true, it would imply that there gards the three fastest growing econo- would be growth differences in the mies the growth rates registered short run because the poorer countries throughout the last decade are very would tend to grow faster than close to the euro area growth path.

253 Alexander Italianer, Oliver Dieckmann

Chart 1 Dispersion of Real GDP Growth Rates from 1995 to 2003

0 1995 1996 1997 1998 1999 2000 2001 2002 2003 Highest growth rate Top 9 economies Lowest 6 economies Top 3 economies (average, GDP weights) Euro area GDP growth Lowest 3 economies Top 6 economies (average) Lowest 9 economies Lowest growth rate Source: Ameco database, Commission services' Spring 2002 Forecasts.

Looking for reasons one just has to convergence creates the conditions for look at the sound economic policy ar- sustainable medium-term growth. chitecture that characterises the euro When there are divergences occurring, area. This framework is characterised such as for instance the slower growth by a number of principles enshrined performance of Italy and Germany in the Treaty: the commitment to open since the mid-1990s, it is important markets and free competition, price to find out whether they are just a ques- stability and sound public finances, tion of the short run with cyclical as- which are supportive to sustainable pects dominating, or whether there are economic growth. On this basis, the underlying structural impediments. To responsibility for the single monetary name just a simple example, diverging policy is with the independent Euro- ageing performances can be a source of pean Central Bank (ECB) guided by long-term growth divergences, ceteris its primary objective is to maintain paribus. price stability in the euro area as a whole,1) while the principle of sound public finances has been translated into the Stability and Growth Pact. This particular euro area architecture of policy

1 While the ECB has not yet explicitlynamed regional developments as a determinant of its decisions, a recent studypresented evidence that regional developments mattered for Fed decisions; see Meade, E.E., and D.N. Sheets (2002). Regional Influences on U.S. Monetary Policy: Some Implications for Europe. International Finance Discussion Paper No. 721, Federal Reserve Board, February.

254 Alexander Italianer, Oliver Dieckmann

3 Business Cycle at price stabilityandthe sound fiscal Synchronisation framework. Closelylinkedtogrowthdifferencesare A main counter-argument has been cyclical differences and asymmetric provided by Krugman, who argued that shocks (see chart 1). But before think- the organisation of production inside a ing about indicators one has to answer monetary union inevitably brings along the question as to whether a monetary a specialisation that makes single coun- union is bound to experience increased tries (or regions) more vulnerable to cyclical convergence. Several argu- global shocks. This could decrease ments have been presented in favour co-movements in output fluctuations. of convergence:1) Increased intra-industry trade, on the — Economic interdependence is in- other hand, could have the opposite creasing due to larger intra-union effect. trade and inter-company links as In order to answer the question for instance induced by foreign about the extent of synchronisation direct investment. one has to identify cyclical diversity. — Linkages between financial markets Here almost all observers start with are strengthening in a huge internal a common set of tools: cyclical differ- market, in particular due to grow- ences between the Member States can ing non-resident portfolios and be identified by reference to the evo- confidence-spillover effects. lution in output gaps, i.e. the growth — Macroeconomic policies are com- rate of GDP relative to that of potential ing to rely more on the same stabil- output. While in the run-up to the start ity-oriented policy convergence of Stage 3 of EMU measures of disper- framework than in the past due sion seemed to indicate a certain reduc- to the single monetary policy aimed tion (e.g. maximum cyclical differen- Chart 2 Diversity in GDP Growth Rates and Output Gaps from 1993 to 2003

GDP Growth Diversity from 1993 to 2003 Output Gap Diversity from 1993 to 2003 % %

2.6 8 8 2.0 2.1 6 6 1.5 1.6

4 1.1 4 1.0 0.6 2 2 0.5 0.1 0 0.4 0 0.0 1993 1995 1997 1999 2001 2003 1993 1995 1997 1999 2001 2003 Maximum deviation (left-hand scale) Standard deviation (right-hand scale) Source: Ameco database, Commission services' Spring 2002 Forecasts.

1 See e.g. Wynne, M.A., and J. Koo (2000). Business Cycles Under Monetary Union: A Comparison of EU and the US. In: Economica, 67 (267), August: 347—74; further arguments have been presented and tested in the growing literature on business cycle synchronisation in general and the emergence of a euro area business cycle in particular; see e.g. Artis, M. J., and W.Zhang (1999). Further Evidence on the International Business Cycle and the ERM: Is There a European Business Cycle? In: Oxford Economic Papers, 51(1), January: 120—32; Do‹pke, J. (1999). Stylised Facts of Eurolands Business Cycle. In: Jahrbu‹cher fu‹r Nationalo‹konomie und Statistik, 219(5—6): 591—610; Breitung, J., and B. Candelon (2001). Is There a Common European Business Cycle? In: DIW Vierteljahreshefte zur Wirtschaftsforschung, 70 (3): 331—8.

255 Alexander Italianer, Oliver Dieckmann

ces, standard deviation across Member introduction of the euro and because States), the more recent data display an they are related to the adjustment in- inverse U-shaped pattern (see chart 2). struments in order to respond to However, it should be mentioned that shocks. theseresultsdependinparticularonthe — Real interest rates. Euro area Mem- performance of the relatively small ber States share single nominal economyofIreland.Thissuggestsbeing money-market rates, but the cautious in using standard measures of underlying real interest rates can cyclical differences. In particular the vary per country due to inflation sample period since the start of differentials.Whilerealshort-term EMU might be too short to draw reli- interestrateshaddeclined inalmost able conclusions at this stage. all Member States up to 1999, de- Where cyclical differences occur velopments since then are not that among euro area Member States, they uniform (see chart 3). In general could for instance reflect correspond- real interest rates have tended to ing differences in monetary and finan- be below average or even negative cial conditions, in external competi- in those Member States that were tiveness or in labour-market develop- least in need of stimulus to eco- ments (particularly in terms of produc- nomic activity. Although there is tivity growth). Non-cyclical factors are an element of causality involved, also likely to be relevant, such as differ- it may thus seem that real interest ences in the sectoral composition of rates tend to display pro-cyclical output leading to asymmetric effects behaviour. of changes in the common external — Long-term interest rates. These rates environment, or structural aspects had also converged downward such as tax systems and pension fund- ahead of the introduction of the ing. It is beyond the scope of this article euro in 1999 and in the time since toexamineallofthesefactorsbuttwoof spreads have been negligible. them — monetary and/or financial con- Thereby, they tended to accentuate ditions and external competitiveness — the effects of differences in under- are of particular interest insofar as they lying real interest rates between have been specifically affected by the Member States.

Chart 3 Real Short-Term Interest Rates

2 BE DE GR ES FR IE IT LU NL AT PT FI May 2000 May 2001 May 2002 Source: Eurostats NewCronos database, ECB, own calculations.

256 Alexander Italianer, Oliver Dieckmann

— Price and cost competitiveness. Eco- be a need for corrective action that nomic growth differences in the would mainly have to take the form euro area also relate to differences of wage-cost adjustment relative to in the external competitiveness of euro area partner countries. the Member States vis-a‘-vis the Data on price and cost competitive- euro area, as reflected in several ness can be produced with several cost and price indicators. For in- types of deflators (see table 1), but stance an increase in the price generally one finds the same ten- and cost indicators (equivalent to dencies as regards losses or gains a real exchange rate appreciation) in competitiveness. In many cases, need not be a cause for concern, the data suggest that cost and price if it is consistent with relative pro- pressures are linked to advanced ductivity performance. For exam- cyclical positions and therefore ple, a catching-up Member State influence competitiveness accord- may experience relatively high pro- ingly. Through its impact on the ductivitygrowthandinflationrates. trade balances, the price/cost ad- More generally, real appreciation justment channel therefore seems may reflect improvements in eco- to contribute to dampening cyclical nomic fundamentals related for fluctuations, although there is again instance to non-price competitive- an issue of causality involved. ness factors, or changes in under- These observations suggest that the lying savings and investment pat- observedcyclicaldiversitysofarhasnot terns. However, there may be cir- been a source of major worry for the cumstances in which real appreci- functioning of EMU. Again, the choice ation would signal a build-up of of an appropriate policy framework competitiveness problems that (and obviously its steady development would ultimately result in subdued over time) is crucial in coping with di- economic growth and rising unem- vergent patterns when they emerge. In ployment.Inthesecases,therewould these terms the euro area has shown a

Table 1 Relative Cost and Price Indicators Relative to the Euro Area1)

Over the last year Over the last two years Relative to average (1st quarter 2002 (1st quarter 2002 against (1st quarter 2002 against against 1st quarter 2001) 1st quarter 2000 to 4th quarter 2001) 1987 to 2001)

Total ULC Manuf. GDP Total ULC Manuf. GDP Total ULC Manuf. GDP ULC deflator ULC deflator ULC deflator BELU 0.4 0.1 0.2 0.5 1.2 0.4 3.8 2.2 1.3 DE2) 1.4 0.5 0.9 3.4 0.4 2.9 5.0 4.6 4.9 GR 0.2 2.6 1.1 1.9 6.9 0.1 9.3 5.8 10.8 ES 0.4 1.0 0.9 1.3 3.4 2.7 2.5 10.2 2.2 FR 0.4 0.7 0.7 0.7 1.2 1.6 1.0 4.8 2.5 IE 3.2 0.2 2.6 5.6 1.9 5.3 2.8 26.7 13.8 IT3) 0.1 1.0 0.1 0.6 1.4 0.7 4.3 0.3 0.7 NL 2.3 1.6 2.6 5.7 4.2 6.6 9.6 4.3 7.4 AT 1.2 1.9 0.6 2.0 4.1 1.1 0.9 9.0 0.9 PT 2.5 0.5 1.3 6.4 3.3 2.8 15.9 6.2 15.1 FI 1.4 1.3 1.2 2.9 1.3 0.3 9.1 18.3 6.0 Source: DG ECFIN, Price and Cost Competitiveness Report - First Quarter 2002, April 2002. 1) Changes in per cent calculated using total unit labour costs (ULC), manufacturing industrys unit labour costs, and the GDP deflator respectively. A —-sign indicates an improvement in cost competitiveness. 2) These indicators probably underestimate the unification-induced deterioration in German cost competitiveness. 3) Relative unit labour cost indices for Italy relative to any period before 1998 are distorted by the 1998 tax reform which shifted taxation from labour costs to value added but did not significantly change competitiveness.

257 Alexander Italianer, Oliver Dieckmann

good record in the first three years. the big distance between the extreme Whether thisresultcanbeextrapolated lines and the other groups. But even to the future will depend on the deter- discarding these cases, the diversity mination of participants to stick to the does not vanish as the lines for the rules and to develop them further as other country groups also display dis- much as necessary. tance from the euro area average (black line). The persistence of the range 4 Inflation Diversity displayed is also mirrored in standard Differences among national inflation measures of inflation dispersion (see rates (inflation diversity) could be a chart 7a). cause of worry in a monetary union In spite of the stability-oriented if temporary inflation shocks become macroeconomic policy framework, entrenched in inflation expectations the remaining cyclical differences can at national level, potentially leading provide an explanation for some of toawage-pricespiralthatcoulddurably the regional differences in inflation affect competitiveness of the country rates that have been observed so far concerned. in the euro area. Indeed a comparison In the first three years of the euro of output gaps (independent of the area there has been inflation diversity, way they are calculated) and inflation as illustrated in chart 4, which depicts rates indicates that a more advanced the minimum and maximum inflation position in the cycle has often been rates and averages of groups of best accompanied by higher inflation rates and worst performing countries in (see chart 5). Here the experience terms of Harmonised Index of Con- from Ireland, the Netherlands and sumer Prices (HICP) inflation rates. Portugal has often been mentioned. Someoftheextremeinflationrates, However, in addition to cyclical deter- the outliers, have been observed in minants there are other factors we small Member States as indicated by have to assess.

Chart 4 Inflation Diversity in the Euro Area

2 19991999 2000 2001 2002 Highest inflation rate Top 9 economies Lowest 6 economies 3 economies with highest inflation rates (Top 3) Euro area inflation Lowest 3 economies Top 6 economies (average) Lowest 9 economies Lowest inflation rate Source: Eurostat's NewCronos database (extracted 25 May 2002), own calculations.

258 Alexander Italianer, Oliver Dieckmann

Chart 5 4.1 Inflation Diversity Output Gaps and Inflation Rates at the Aggregate Level (12 Euro Area Economies) In view of the different cyclical posi-

Output gap in % tions of Member States, national infla- 1999 tion rates cannot be expected to coin- 6 2000 2001 cide (see chart 5). While the cyclical 4 Trend line contribution to inflation diversity

2 should diminish to the extent that a uniform euro area business cycle emerges 0 (see section 2), differences may also re- 2 flectcountry-specificfactorsthatare,at 0 123456 HIPC inflation in % least partly, non-cyclical in nature. For Source: Ameco database, Commission services Spring 2002 Forecasts. example, it is well known that structural differences (e.g. energy intensity of production, natural resources, and — External shocks. The increase in en- import structure) make the impact ergy prices in 2000 and 2001 has hit of changes in prices of crude oil rather some countries more than others. different across economies. Asymmet- Countries having a larger share of ric impacts like this should become energy consumption in their HICP visible in comparisons of developments obviouslyshowastronger impactof in HICP components. However, even oil price changes on HICP inflation if individual components would display rates. a similar evolution in all Member — Policy induced price changes. Deci- States, the development in the overall sions about indirect taxes, admin- HICP could be different due to differ- istrative prices and fees are taken encesinweightsattachedtosinglecom- at the level of the Member States. ponents in national HICP indices. An They affect HICP inflation as for example is Ireland, where processed instancetheexampleoftheNether- food constitutes around 20% of lands has shown in 2001. Also the the HICP, while it constitutes only national introduction of ecological about 13% of the HICP in the taxescouldhaveasignificantimpact euro area as a whole. Further obvious and explain differences. differences are linked to climatic con- — Balassa-Samuelson effect. It has been ditions and preferences that differ argued that productivity differen- across countries. tials between sectors producing tradable and non-tradable goods 4.2 Inflation Diversity could justify inflation rates that as Evident in HICP Components differ from those of other countries In search of reasons for inflation diver- without endangering the price and sity attention has been attracted by cost competitiveness and thus developmentsinthesinglecomponents without giving any reason for being of HICP indices.1) On the one hand, concerned. specific groups of goods and services These aspects deserve to be looked prices could explain some of the ob- at in more detail. served differences, on the other hand

1 On this issue see also ECB (2000). Inflation Differentials Within the Euro Area (Box 4). In: ECB Monthly Bulletin, December: 31—33.

259 Alexander Italianer, Oliver Dieckmann

Chart 6 Headline, Core1) and Services Inflation

3.0

2.5

2.0

1.5

1.0

0.5

0.0 19981999 2000 2001 2002

Headline (Overall HICP) Services Core Source: Eurostats NewCronos database. 1) Core = HICP excl. energy and unprocessed food.

an analysis of the main HICP categories ard measures. The periods with can reveal their contribution to the an above-average increase in the levels and the dispersion observed in German index can be explained the overall index. Especially the ob- by increases in the so-called ecolog- served differences between headline ical tax, while the below-average and core inflation rates (see chart 6) increase in the French index points suggest that prices of unprocessed food to a low level of oil-based energy and energy do not only show a higher production. Moreover, some gov- volatility than others, but also that they ernments have decided to soften could have been a major source of in- the impact of temporary high oil flation differentials: prices on energy consumers, while — Unprocessed food. Food prices are others have not. These different known to be the most volatile com- responses as well as different tax ponent in explaining country-spe- schemes (e.g. floating gasoline cific differences, due to differences taxes in France contrasting with in seasonal patterns, weather con- fixed taxes elsewhere) could conditions or country-specific reasons tribute to a further widening of (e.g. the outbreak of foot-and- inflation differentials. mouth disease in only a few Mem- — Services inflation has been on an ber States in 2001). This volatility upward trend between 2000 and implies a relatively large dispersion May 2002 (see chart 6), reflecting of price changes, but the absence of strong demand and in catching-up any clear trend in the dispersion countriesalsotheneedtopaywages measures of this component (see similar to those in the high-produc- chart 7c). tivity sectors (bringing the reason- — Energy. A comparison of the HICP ing back to the Balassa-Samuelson energy component across econo- argument). However, standard dis- mies indicates an asymmetric im- persion measures show a steadier pact of higher oil prices resulting development than other compo- in high volatility indicated by stand- nents (see chart 7e).

260 Alexander Italianer, Oliver Dieckmann

Chart 7 Inflation Diversity in HICP Components

Last observation: May 2002

a) HICP Headline Inflation b) Core Inflation % %

6 6

5 5

4 4

3 3

2 2

1 1

0 0 Maximum deviation Linear (Maximum deviation) Stand. dev. unweighted Linear (Stand. dev. unweighted)

c) Unprocessed Food (HICP) d) Energy (HICP) % %

16 20

12 15

8 10

4 5

0 0

e) Services (HICP) f) Processed Food (HICP) % %

8 8

6 6

4 4

2 2

0 0 19981998 1999 2000 2001 2002 19981998 1999 2000 2001 2002 Maximum deviation Linear (Maximum deviation) Stand. deviation Linear (Stand. deviation) Source: Eurostats NewCronos database (extracted 25 May 2002), own calculations.

These selected subcategories sug- standard deviation. The calculation gest that differences can be traced back of contributions of items to the euro to differences in energy,as this has been area aggregate also highlights the sub- the only graph displaying a positive stantial changes in their contribution slope of trendlines. However, a closer over time. As item weights differ sub- look at the twelve categories forming stantially across countries this inevita- the HICP reveals that dispersion has bly comes along with inflation diversity increased only in four categories in across the Member States. 2001 (see table 2). Moreover, the main The national contributions to the contribution to euro area inflation euro area aggregate are displayed in comes from alcoholic beverages and to- table 3. In 1999 Germany, Spain and bacco, which displays a rather low Italy contributed most in absolute

261 Alexander Italianer, Oliver Dieckmann

Table 2 Differences Between HICP Components1)

Items Euro area inflation rate Standard deviation Contribution to euro area across euro area Member States HICP inflation rate

1997 1998 1999 2000 2001 1997 1998 1999 2000 2001 1997 1998 1999 2000 2001 % Percentage points Percentage points 1 Food, non-alcoholic beverages 1.0 1.5 0.2 1.1 4.9 1.30 1.16 1.34 0.95 1.12 0.19 0.28 0.04 0.18 0.80 2 Alcoholic beverages, tobacco and narcotics 3.6 2.7 2.5 2.2 2.9 3.01 2.17 1.77 2.95 1.81 0.16 0.12 0.11 0.09 0.12 3 Clothing and footwear 1.2 1.2 1.1 0.8 0.6 3.05 3.21 2.37 2.02 1.51 0.11 0.11 0.09 0.07 0.05 4 Housing, water, electricity, gas and other fuels 2.8 1.0 1.4 4.3 3.3 1.53 1.16 0.86 2.03 1.53 0.45 0.16 0.23 0.67 0.51 5 Furnishings, household equipment and routine maintenance of the house 1.0 1.1 1.0 1.0 1.9 1.61 1.50 0.80 1.12 1.10 0.08 0.09 0.08 0.08 0.15 6 Health 4.4 3.4 2.3 1.8 1.2 2.98 5.29 1.17 3.11 2.84 0.03 0.02 0.02 0.06 0.05 7 Transport 1.6 0.3 2.0 5.4 1.2 1.36 1.40 1.23 1.36 1.57 0.25 0.05 0.32 0.84 0.19 8 Communications 1.3 0.9 4.4 4.5 2.8 2.59 2.47 4.02 3.43 3.91 0.03 0.02 0.11 0.11 0.07 9 Recreation and culture 1.4 0.9 0.4 0.6 1.8 1.76 1.38 0.94 1.63 1.33 0.14 0.09 0.04 0.06 0.17 10 Education 2.5 2.9 2.6 2.9 3.1 2.07 1.56 1.39 3.14 2.45 0.01 0.01 0.01 0.03 0.03 11 Restaurants and hotels 2.2 2.4 2.3 2.7 3.3 1.68 1.61 1.54 1.22 1.48 0.19 0.21 0.19 0.23 0.29 12 Miscellaneous goods and services 1.6 1.0 1.5 2.2 3.0 2.22 1.72 1.17 1.33 1.23 0.10 0.06 0.09 0.15 0.22 All items (HICP) 1.7 1.2 1.1 2.4 2.5 1.15 1.07 0.72 0.96 1.02 1.70 1.20 1.10 2.40 2.50 Source: DG ECFIN, Price and Cost Competitiveness Report — First Quarter 2002, April 2002. 1) Under the heading euro area the aggregate of the 12 participating countries is displayed (for all periods). This applies to all tables and the text.

Table 3 National Contributions to the Euro Area HICP Inflation Rate

Country HICP inflation rate National contribution to euro area Actual contribution minus contribution HICP inflation consistent with HICP weight

1997 1998 1999 2000 2001 1997 1998 1999 2000 2001 1997 1998 1999 2000 2001 % Percentage points Percentage points 1 Belgium 1.5 0.9 1.1 2.7 2.4 0.06 0.03 0.04 0.11 0.08 0.00 0.01 0.00 0.02 0.00 2 Germany 1.5 0.6 0.6 2.1 2.4 0.51 0.2 0.2 0.71 0.74 0.03 0.17 0.17 0.07 0.03 3 Greece 5.4 4.5 2.1 2.9 3.7 0.11 0.09 0.04 0.06 0.09 0.08 0.07 0.02 0.01 0.03 4 Spain 1.9 1.8 2.2 3.5 2.8 0.17 0.16 0.20 0.31 0.29 0.03 0.06 0.10 0.11 0.03 5 France 1.3 0.7 0.6 1.8 1.8 0.28 0.15 0.12 0.37 0.37 0.06 0.09 0.10 0.10 0.14 6 Ireland 1.2 2.1 2.5 5.3 4.0 0.01 0.02 0.02 0.05 0.05 0.00 0.01 0.01 0.03 0.02 7 Italy 1.9 2.0 1.7 2.6 2.3 0.34 0.36 0.31 0.47 0.43 0.05 0.16 0.11 0.05 0.04 8 Luxembourg 1.4 1.0 1.0 3.8 2.4 0.00 0.00 0.00 0.01 0.01 0.00 0.00 0.00 0.00 0.00 9 The Netherlands 1.9 1.8 2.0 2.3 5.1 0.10 0.09 0.10 0.13 0.27 0.02 0.04 0.05 0.00 0.14 10 Austria 1.2 0.8 0.5 2.0 2.3 0.04 0.02 0.01 0.06 0.08 0.01 0.01 0.02 0.01 0.01 11 Portugal 1.9 2.2 2.2 2.8 4.4 0.03 0.04 0.04 0.05 0.09 0.00 0.02 0.02 0.01 0.04 12 Finland 1.2 1.4 1.3 3.0 2.7 0.02 0.02 0.02 0.04 0.04 0.01 0.00 0.00 0.01 0.00 Euro area 1.7 1.2 1.1 2.4 2.5 1.70 1.20 1.10 2.40 2.50 Source: DG ECFIN, Price and Cost Competitiveness Report — First Quarter 2002, April 2002.

terms, but as Germany as a large coun- 4.3 InflationDifferencesattheSectoral tryalsohasalargeHICPcountryweight Level and Catching-Up it still contributed less than suggested Some causes of inflation diversity could by the weight, while Italy contributed be linked to the sectoral level. Short- over-proportional (0.11 percentage term differences can be induced by point).In2001thelargestabsolutecon- political measures like tax changes that tribution came from Germany, but the are introduced by individual Member Netherlands were the country with the States for policy reasons (i.e. responses largest excess contribution (0.14 per- to oil price increases favouring trans- centage point). port companies).

262 Alexander Italianer, Oliver Dieckmann

Longer-term differences can be increased, to the direct or indirect im- linked to catching-up processes: In par- pact of energy price increases and pos- ticular, differences in sectoral produc- sibly to price level convergence in the tivity growth can result in economy- wake of further integration for goods wide wage increases oriented towards and services markets. those of the more dynamic sectors, imposinganupwardbiastotheinflation 5 External Imbalances rate for the total economy. These The areas that have been looked at are sectoral causes of inflation diversity obviously the ones that attract most of are most frequently associated with theattentionwhendiscussingdiverging Balassa-Samuelson effects.1) But given performances. However, there is an- that aggregate price levels vary mark- other area on which there has been edly across euro area Member States,2) less focus so far, but which could convergenceinpricelevelsduetogreater get more atten- market integration and productivity tion in the fu- convergence will also inevitably be re- ture: the diver- flected in inflation rate differentials. sity in external For tradables, the forces acting for positions. price level convergence are those that Large exter- increase market integration: single nal imbalances market rules, lower transport costs, in Japan and in increased price transparency, etc. the U.S.A. have The forces acting for convergence of been at the centre of debate for a long non-tradables prices are more indirect time(seechart8).Oftentheyhavebeen and are mainly related to real economic assessed asarisktoeconomicandfinan- convergence; cf the Balassa-Samuelson cial stability. Adjustment scenarios effect. In addition, a widening range of were mostly based on cyclical or ex- services is becoming tradable due to change rate changes providing the basis technological progress and this may for adjustment of trade and capital add to convergence in non-tradables flows. Compared to these external im- prices. Increased mobility of capital balances those registered for the euro and labour across the euro area would area appear to be rather small. also promote an equalisation of factor However, in the euro area some prices. substantial external imbalances are Concluding, it seems that the slight registered at the level of the Member increase in inflation diversity that has States (see chart 9). Such imbalances been observed since the start of raise questions about the appropriate- EMU seems related to the fact that nessandsustainabilityofnationalexter- theaverageinflationlevelhassomewhat nal imbalances in a monetary union.

1 For an exposition of the Balassa-Samuelson argument see for instance ECB (1999). Inflation Differentials in a Monetary Union. In: ECB Monthly Bulletin, October: 35—44; Alberola, E.(1999). Is There Scope for Inflation Differentials in EMU? In:BancodeEspana EconomicBulletin, January:69—73;Bjo‹rkste«n, N.,and M.Syrja‹nen(1999). How Important Are Differences Between Euro Area Economies? In: Bank of Finland Bulletin, 73 (4): 20—25; and Alberola, E. (2000). Interpreting Inflation Differentials in the Euro Area. In: Banco de Espana Economic Bulletin, April: 61—70; for a discussion of policy implications see for instance Sinn, H.-W., and M. Reutter (2001). The Minimum Inflation Rate for Euroland. NBER Working Paper no. 8085, January. 2 See for instance European Commission (2001). Price Levels and Price Dispersion in the EU. European Economy Supplement A, July.

263 Alexander Italianer, Oliver Dieckmann

Chart 8 Current Account Balances from 1999 to 2002

% of GDP

5 1999 2000 2001 2002 Euro area U.S.A. Japan Source: Commission services' Spring 2002 Forecasts.

Chart 9 Current Account Balances from 1999 to 2002

% of GDP, ordered according to mangitude in 2000

12 PT GR ES AT DE IR IT FR BE NL FI Euro area 1999 2001 2000 2002 Source: Ameco database, Commission services' Spring 2002 Forecasts.

Do imbalances matter for Member In general, current account imbal- States? Do they matter for the euro ances at the level of the Member States area as a whole? What can be done have been persistent in the past too. But to reduce imbalances if deemed neces- the euro has in important ways changed sary? All these questions have received the situation, because the single cur- relatively little attention in recent rencymakesiteasier tofinancedeficits, years, in the absence of financing con- and because exchange rates do not exist straints and potential exchange rate anylongeramongeuroareacountriesas tensions. a tool for adjustment:

264 Alexander Italianer, Oliver Dieckmann

— Easier financing of deficits. Countries and France, roughly balanced current can run imbalances for a long time accounts in Italy and Germany and def- and accumulate large positive or icitsin alltheother MemberStates. Asa negative net external positions. percentage of GDP the diversity in cur- This is not inherently inappropri- rent account positions is even more ate, as there can be good reasons apparent. Strong surpluses of more for current account deficits (e.g. than 4% of GDP in three countries con- in the context of catching up). Also trast with deficits of more than 4% of one also has to acknowledge that GDP in two catching-up countries (see imbalances often simply reflect pri- chart 9). Current account analysis of- vate sector activity. However, an fers a variety of explanations for ob- imbalance in a Member States in- serveddevelopmentsasfor instancecy- ternational account will imply ulti- clicaldeterminantsandchangesincom- mately a change in its net external petitiveness. position, and even without discus- — Cyclical reasons. Due to variations sing the theoretical foundations of in domestic absorption, it can be current account sustainability one argued that the part of the deficit can recognise that the accumulation in any particular country that is of external debt as such is not un- cyclical (higher import volumes limited. induced by strong economic activ- — No internal exchange rate adjustment. ity) can be expected to unwind as Corrections cannot any longer take growth resumes (assuming the the form of nominal exchange rates economy returning to its long- changes; other channels affecting runtrend).Thiswouldimply,ceteris competitivenesshavebecome more paribus, an increase in current ac- important. For a deficit country an count deficits or a decline in sur- improvement can be achieved by pluses in periods of above-average wage moderation and structural income growth and the opposite in reform raising productivity. Struc- times of below-average income tural reform has become particu- growth.Suchacorrelationbetween larlyurgenttoachievetheflexibility output gaps and changes in current needed, as relative wage modera- account positions would show up in tion is more difficult in the low- the scatter diagrams in data points inflation environment of the euro forming a downward sloping line area. between the northwest and the A key element will always be the southeast. However, such a pattern early recognition of inappropriate im- is difficult, if not impossible, to de- balances. Thus there is some justifica- tect in chart 10. For instance in all tion to monitor the development of ex- three years Ireland was in an ad- ternal imbalances of the Member States vanced cyclical position, but regis- to discuss adjustment where imbalan- tered relatively small changes in its ces are deemed to be too large. Several current account and even an im- elements could be taken into account provement in 2001. The cyclically for such a monitoring.Since the start of advanced economy of the Nether- Stage 3 of EMU the euro area current lands reported current account im- account deficit now represents the provements inall threeyears.How- balance of surpluses in Finland, the ever, during these years substantial Netherlands, Belgium-Luxembourg, changesinoilpriceswereobserved,

265 Alexander Italianer, Oliver Dieckmann

Chart 10 Output Gaps and Changes in the Current Account Balances

1999 2000 2001 Output gap IR 6 IR

5 FI 4

3 IR

2 FI PT NL PT NL BE FI 1 ES AT ES PT ES AT FR DE NL BE GR 0 BE IT FR AT IT FR GR IT 1 DE GR DE 2 1 0 1 2 2 1 0 1 2 2 1 0 1 2 Change in the current account balance in % of GDP (percentage points) Source: Ameco, Commission services' Spring 2002 Forecasts.

which were increasing the import have achieved improvements in bill and possibly hiding the cyclical competitiveness as measured by component of current account all three indicators displayed. Also changes. Moreover other impor- in the short-term (the last four tant determinants (e.g. price com- quarters)mostoftheindicatorshint petitiveness) and lags have affected at improvements in the relative po- current account developments. sition of these countries. Over the — Changes in competitiveness. Price and last year a deterioration has been cost competitiveness is a major observed in the cyclically more ad- determinant of trade flows among vanced economies of Ireland, the industrial countries. Changes in Netherlands, Spain and Portugal. indirect taxes, wage settlements In particular for Greece and Portu- and country-specific factors change gal, deterioration is reported rela- the cost situation of producers and tive to the 1987—2001 average. As affect their position in world mar- the latter two countries register kets. If for instance wage increases the largest external deficits (see exceed productivity gains a result- chart 10), competitiveness factors ing deterioration in terms of com- appear to have contributed. petitiveness can not be offset by — Competitiveness and profits. Changes nominal exchange rate changes, in competitiveness can be induced as it could before EMU started. by rather different developments. Thus, one would expect deteriora- Improvements could reflect cuts tionincompetitivenesstoresultina in costs or/and in profit margins. larger current account deficit and The latter could be aimed at gaining vice versa. market shares and to compensate Thefirstthreeyearsoftheeuroarea for lower margins by increasing have seen some marked changes in the volume component. As this also relative cost and price indicators works the other way round a dete- (see table 1). In particular Ger- rioration in price competitiveness many, France, Austria and Greece could also be induced by higher

266 Alexander Italianer, Oliver Dieckmann

profit margins whereas a deteriora- Conclusion tion that comes along due to cost The four issues discussed in this article increases provides a more serious indicate that divergences in macroeco- case of concern. nomic performance exist in the euro As economic policy-making is still area. However, as has been argued, largely decentralised in the euro area these differences are not necessarily economy, it is useful to consider the a matter of concern. An optimal cur- current account situations in the indi- rency area is not so much characterised vidual Member States, since they tend by completely convergent perform- to be masked by a more or less balanced ance as well as by the capacity to deal euro area current account. Some coun- with such divergences. For instance, tries (e.g. the Netherlands) have regis- what matters is not whether the Krug- tered a significant current account man hypothesis of specialisation is true, surplus as they were at an advanced stage of the cycle. This would suggest that the economy could afford a real appreciation that would raise living standards. Countries having a current account surplus and high but how the economy adjusts to it. unemployment(e.g.France)couldtake Secondly, although it is too early to structuralorother measuresinorder to give a definitive judgement, the first stimulate domestic demand. Other almost three-and-a-half years of exis- countries are experiencing a situation tence of the euro area seem to lend sup- of real catching up (e.g. Ireland) with port to the view that the sound frame- private sector confidence and a current work of price stability and fiscal pru- account deficit. These countries seem dence, established in EMU, in spite to have benefited from the creation of of some of the recent tensions, is capa- large and liquid euro financial markets, ble of assuring a smooth and sustainable implying a regime change for private development. The structural reforms sector borrowers in particular. Else- that already started in the run-up to where (e.g. Portugal) the large current thelaunchoftheeuro,andthatreceived account deficit appears not only to re- an additional impetus through the reflect a catching up situation, but also form agenda agreed in Lisbon in the lowcompetitivenessandstrongdomes- spring of 2000, have already born fruit tic demand driven by relatively loose in strong job creation and unemploy- monetary conditions. Germany and ment reduction. Italy, registering almost balanced cur- All in all, there is good reason to be rent accounts and slow growth, need relatively optimistic about the ability of more push to economic growth coming the EMU framework to cope with the from structural reform, which could challenges macroeconomic diversity lead to more flexibility and to a current might pose. Long-term growth differ- account deficit. ences are justified by catching up phenomena and can be expected to continue once the future Member States

267 Alexander Italianer, Oliver Dieckmann

will have joined the euro area. Cyclical priate, corrective policy action in view growth divergences seem to be man- of ensuring continued macroeconomic ageable in size. Inflation diversity can andstructuralpolicyconvergence.This be explained by the business cycle, in- is exactly why there is such a thing tegration effects, the adjustment to ex- as multilateral surveillance and the ternalshocksandBalassa-Samuelsonef- Stability and Growth Pact, and why fects. National external imbalances are the European Commission pointed not (yet) a prime reason for concern, to the delivery gaps in the Lisbon struc- but need to be monitored because they tural reform process in the run-up to can haveasignalling function forunder- the recent Barcelona Summit. lying imbalances. A credible macroeconomic policy However, in spite of the achieve- framework combined with an ambi- mentsalreadyaccomplishedintheearly tious, but socially balanced, structural life of the euro, there is no room for reform process are key elements in complacency and every reason to re- safeguarding the sustainability of the main vigilant. So some of the divergent encouraging performance of the euro performances that were identified need area until now. § careful monitoring and, where appro-

268 Richard Portes Professor, London Business School President, Centre for Economic Policy Research (CEPR) Comments on Alexander Italianer and Oliver Dieckmann, Are Divergent Macroeconomic Performances in a Monetary Union a Reason to Worry?

This is anexcellent paper,whichI much focusontheinflationtarget,whichdoes enjoyed reading. I was particularly not of course mean that it should ignore pleased with the careful balance drawn employment, growth or the exchange by the authors and their use of the rate. Although monetary policy mani- evidence. And although their official festlycannotdeal position may make it difficult to answer with structural very directly the question of the title, I issues, it can de- can take advantage of the academics liver inflation prerogative to be controversial. I sug- control, even gestthatthepapergivesusgoodreasons when there is not to worry excessively about real realdivergence divergence. across a large Of course, a one-size-fits-all economy. And monetary policy will not in fact fit that is what should be required of it all. But the tensions that implies are — no more. common in any large country with di- Conversely, although real conver- verse regions, and indeed even in a gence is desirable, and structural re- small country whose economy may forms are necessary to raise productiv- be based on (say) a major natural re- ity growth, they are not necessary for source export, tourism, and a small the sustainability of Economic and domestically oriented manufacturing Monetary Union (EMU). The optimal sector — a not uncommon case. For currency area (OCA) criteria have the large country example, take the been grossly overemphasized. Doubt- U.K., where our own one-size-fits- less if the Mundell paper had existed all monetary policy is having great dif- inthenineteenthcentury,noeconomist ficulty in circumstances of an over- wouldhavesupportedimposingasingle valued exchange rate, a housing price currency on such a diverse geopolitical bubble, and significant disequilibria: construct (recall it was not merely eco- a recession in manufacturing alongside nomically divergent — there was a a boom in services; a slump in invest- major civilwar and its aftermath). Even ment alongside powerful growth of now, just as the U.K. or Italy or Spain, consumption; high unemployment in the U.S. has strongly divergent regional the north-east and tight labour markets economicconditions—compareSilicon in the south-east. Valley and Chicago or Atlanta. Yet a But the answer is not to be obsessed single currency works perfectly well. by the need for real convergence. It is That success is not, in my view, instead to recognise that monetary pol- primarily because of labour market icy cannot deal with most of these dis- flexibility or the fiscal transfer mech- equilibria and should not try. It should anism. Rather, it is because the single

269 Richard Portes

Table 1 Portugal: Savings, Investment and the Current Account

1974—1985 1986—1990 1991—1995 1998—2000 %ofGDP Current account 6.60 0.60 3.10 8.90 Gross private savings 22.90 28.00 23.10 16.10 Gross national savings 20.30 27.10 21.60 18.60 Investment (rate of change) 1.30 þ11.00 þ 2.00 þ 7.00 Pro-memoria GDP (rate of change) þ 2.20 þ 5.50 þ 1.80 þ 3.40 Source: European Commission, Spring 2001 Economic Forecasts.

currency creates the conditions for mit more idiosyncratic developments financial marketintegration. The single across the union. capital market can and does — to some Ireland and Portugal are good ex- extent, automatically — finance dise- amples. Let me take the latter, which quilibria within the monetary union. featured in the 2001 Update of the The Mundell paper and the OCA Monitoring the European Central Bank criteria were out of date almost imme- series (CEPR). Portugals entry to diately, because the paper appeared the European Union in 1986 was ac- just when capital markets emerged companied by a rise in the growth rate from the shackles that had bound them of investment, financed by domestic for thirty years. And this is what we see savings. Portugalsentry into monetary today, already, within the euro area. union in 1999 was also accompanied by Monetary union has removed financial a rise in the growth rate of investment, constraints on divergence. So although but this has been financed by foreign there are well-known reasons why borrowing — to the extent of a current the OCA criteria are endogenous, in- account deficit on the order of 10% of sofar as monetary union raises intra- GDP. Such a deficit would have been EMU trade and the common interest impossible outside monetary union — rate tends to synchronise business there would have been a balance-of- cycles, in fact the single currency payments crisis, and the escudo would and a unified capital market also per- have been forced out of the ERM. But

Chart 1 PPP GDP and the Change in the Investment-GDP Ratio: EU, from 1995 to 2000 Investment-GDP ratio from 1995 to 2000

1 PPP GDP in 1999 (92 prices)

270 Richard Portes

Chart 2 PPP GDP and Current Account Deficits: EU, in 1995 Current account deficit (% of GDP)

12 PPP GDP in 1999 (92 prices)

Chart 3 PPP GDP and Current Account Deficits: EU, in 2000 Current account deficit (% of GDP)

12 PPP GDP in 1999 (92 prices) there could not be a currency crisis, strong correlation in 2000: poorer because the escudo no longer existed countrieswith higher investment needs exceptasaunitoftheeuro,andfinancial can finance them from abroad, with no integration meant that external financ- risk of a balance-of-payments crisis. ing of the deficit was automatic. That does not mean they can ignore This case is representative of a more the intertemporal budget constraint! general phenomenon. Even before the But it is clear that monetary union single currency, and certainly since, facilitates the divergent investment monetaryunificationhaspromotedreal performance that should lead to con- convergence through the capital mar- vergence of per capita output. So the kets. Weobserve that during theperiod answer to the question put by the title from 1995 to 2000, investment/GDP ofthispaperisno—theunionitselfand ratios rose most for the less developed its central authorities should not overly (lower income) countries in the Euro- concern themselves with divergent pean Union. macroeconomic performances in the The role of capital market integra- euro area, because in some respects tion is clear when we compare the pat- they will be normal and healthy. And tern of current accounts in 1995 and wheretheyarenot,itisfor thedomestic in 2000. Whereas before monetary economic policymakers to deal with union, current accounts were hardly the divergence. § correlated with income, we find a

271 Sinikka Salo Member of the Board, Suomen Pankki

Regional Policies and Differences in Economic Structures

In a globalising world, resources need Finnish experience, one can agree with to be continuously reallocated accord- the sentiment. Finland, as a small open ing to changes in demand for products, economy with specialised industrial changing competitive positions and structure — paper and electronics production methods. As technology (Nokia) — was generally regarded as has developed and economies have most prone to asymmetric shocks. opened themselves up to trade, reallo- However, since the early years of the cation has taken 1990s when the policies aiming at join- place in much ing the EU and the EMU were adopted, larger regional the economic cycle has been more entities than ear- synchronised with the average cycle lier. There has in the euro area, albeit with higher am- also emerged a plitude. Even during the last half of the tendency for 1990s, when GDP growth in Finland people and firms clearly exceeded the average growth to cluster to- in the EU, inflation remained rather gether with those that share their par- close to that of the euro area average. ticular know-how and skills. Europes Moreover, the recent rapid slowdown economic geography is changing be- ofdemandintheITsector,whichhitthe cause of these trends and pressures Finnish economy more heavily than known popularly as globalisation. other euro area countries, did not sig- These regional developments do not nificantly change the situation. The originate from European integration, ECB monetary policy reaction to a but are likely to have been strengthened decrease in interest rates was largely through the increased competition it takenasbeingwell-suitedtotheFinnish has brought about. At the same time IT sector and the economy as a whole, integration — through increased trade, while a credible common monetary financial market integration and more policy prevented the difficulties of similar macroeconomic policy frame- the IT sector from spilling over into works — should have a synchronising other sectors in the economy. impact on the economic performance In the following, I am going to focus of countries participating in the EU and on differences in regional structures, in particular in the Economic and questionsofspecialisation,andregional Monetary Union (EMU). policies. I do not even try to answer the In general, assessments regarding difficult question of how much diver- performance of the monetary union genceinstructuresissustainable,posed during its first three and half years in the title of this panel session — I refer are positive. Alexander Italianer also to the common understanding that concludedhisilluminatingpresentation polarisation is bad and should be on differences in macroeconomic per- avoided. formance in the EMU by expressing According to recent studies, clus- moderate optimism. Based on the tering and specialisation need not lead

272 Sinikka Salo

to polarisation, because — as it is highly interrelated, especially as far argued — most regions should be able as regional policy in its strictest mean- to specialise in something. However, ing is concerned. But nevertheless, it is riskof polarisation cannot be ruled out, conceptually and politically important if policies try to freeze existing patterns toclearlybear thisseparationofrespon- of economic structures although they sibilities in mind. are no longer competitive. Therefore, With regard to national policies, in issues of regional and cohesion policy a welfare state well-developed public have become increasingly important on services and high level, highly pro- the policyagenda in the EU, in thewake gressive taxation tend to reduce in- of enlargement. equality in society in general and con- The accession countries are a lot sequently reduce regional inequality.In poorer than the current Member Finland, for example, the poorest of States. The planned enlargement of the countrys 20 the EU into a Union of 25 Member regions contrib- States will therefore necessarily entail ute, in the form a dramatic increase in economic and of taxes to the social inequality in the Union, both central govern- between Member States and between ment budget, regions. Even though this increase in less than 70% inequality is, in a sense, only a notional of what they re- consequence of the change in bounda- ceive from the ries, the political consequences for the budget in the form of expenditure, EU are by no means notional. whereas some other regions pay some Increased differences will be duly 50% more than they receive. The effect reflected in political agenda. The allo- of this redistribution of income on re- cationoftheEUstructuralandcohesion gionalincomedifferencesissubstantial. funds is where the conflict of interest I doubt whether many accession coun- will be seen at its clearest, but similar tries at their present level of develop- tensionshavearisenorarelikelytoarise ment could benefit much from an im- in other fields, such as agricultural pol- mediate adoption of a full-scale welfare icy, freedom of movement, incomes state and it is likely that they have to policies etc. tolerate much greater regional differ- There is, I expect, a broad consen- ences than most of the present Member sus about what could be called the two- States. But there may be something to pillar approach for cohesion policy in be learnt from the underlying ideology the EU. The first pillar is the recogni- of the (efficient) welfare state and some tion by less prosperous nations and re- of its features could perhaps be adopted gions that they bear the primary rein the new Member States without too sponsibility in tackling their own pov- heavyabudgetaryburden.Inparticular, erty, which is crucial, for it is not only in view of the high level of unemploy- good economic policy, but is key to ment and rapid ageing of the popula- good governance. The second pillar tion, one of the main challenges for is that the EU must provide support the accession countries is to increase for its least developed regions. The dis- labour force participation and employ- tinction between these two pillars is of ment. This requires supportive infra- course clear only in theory. In practice structure and services to be provided national and community policies are by awelfare state, notably such as facili-

273 Sinikka Salo

ties for childcare and care of the elderly would be exceeded and by the end that particularly support the participa- of the period this could be an excess tion of women in the work force. that is more than merely marginal. Wage moderation and increased Instead of increasing the European wage differentiation according to pro- citizens tax burden, efficiency of the ductivity and skills are both essential Communitys policies should be more ingredients in any policies targeted at in focus. The main targets for improve- higher growth and higher employment. ments are the Common Agricultural Wage flexibility will remain important Policy and Cohesion Policies, by the evenafter theeliminationoffundamen- simple fact that they together take tal labour market imbalances, espe- up some 80% of total Community ex- cially for countries which aim joining penditure. the euro area in the relatively near fu- It is generally accepted that the ture. In the mon- Community Cohesion Policy should etary union each continue to target the least developed country has to regions. After accession into the EU, liveuptothegoal the least developed areas will be in of price stability. the new Member States and thus struc- Countries join- tural and cohesion funds will be ing the monetary redirected to these countries. This union must have will imply substantial transfers from institutions,eco- the EU budget to the new Member nomic structures and policy discipline States. suited for specifically that. Meanwhile Great attention is needed to ensure it should be stressed that for less pros- that the recipients have the capacity to perous accession countries, the main absorb them. Under the current rules policy priority is to adopt an overall for the period from 2000 to 2006, policy framework that is strongly ori- transfers from the Structural and ented towards high and sustainable eco- Cohesion Funds are limited up to a nomic growth. This will entail encour- maximum of 4% of national GDPayear aging new activities and combinations in all Member States. In view of the of activities, but regional policy objec- limited administrative and absorption tives should be subordinated to aggre- capacityofmostofthenewEUMember gate economic policy objectives. States, the Commission proposal in the AttheEuropeanUnionlevel,oneof recent information note Common Finan- the key issues in the policy debate is the cial Framework 2004—06 for the Accession establishment of a financial framework Negotiations, confirming the same ceil- for the enlargement process. It is vital ing for overall structural financial sup- thatsomeofthe issuesaresolvedfor the port for the period from 2004 to 2006, periodfrom2004to2006,butthemain is a step in the right direction. This ceil- problems seem to lie with the next ing would seem appropriate even after financial perspective from 2007 to 2006. Strict application of limits with- 2013. It seems that the continuation outexceptionswouldhelppreventmis- of present community policies after en- understandings and the culture of rent largement would imply substantial seeking in the new Member States. In budget pressures. There is a risk that this regard one might question whether the current limit of 1.27% of GDP it is helpful to refer possibilities of addi- for the Communitys own resources tional financing in exceptional cases,

274 Sinikka Salo

such as projects of a particular Com- helped by active regional policies that munity interest in relevant circumstan- focused on the relatively rich local ces, as suggested by the Commission centre and not on the whole area. A in its First progress report on economic and decisive move was probably the estab- social cohesion. lishment of the University of Oulu, To avoid the risk that cohesion pol- which started its operation in 1959. icies freeze existing patterns of eco- Inparticular,thefacultiesoftechnology nomic activity and thereby increase and medicine have played a central role the likelihood of the polarisation they as promoters of local growth and have seek to prevent, refocusing of cohesion close connections with the local high- policies would be needed to contribute tech companies. to the objective of increasing regional In my contribution to the debate I growth prospects and competitive- have highlighted some aspects of re- ness. Instead of resisting inevitable gional policies in preventing polarisa- changes, the authorities should perhaps tion in economic structures and per- even aim at speeding up the adjustment formance. It is important to avoid of the economy to the new economic- policies that would freeze existing political environment. The experien- structures of economic activity if they ces of some countries suggest that rapid were not viable. Let me finish my con- adaptation to changing circumstances tribution by referring to recent discus- in the form of even large migration sionsoninstitutional reforms:Weneed flows is feasible and in the end may even more transparency and efficiency, also be optimal. in the administration of the commun- One approach to regional policy, itys regional policies, which is very that has sometimes been successful, complex. At the same time, very is to favour viable growth centres. little is known of the effects of differ- As an example, much of the northern ent programmes. It is important to part of Finland has become or is in the recall the need for transparent and ef- process of becoming very sparsely ficient programme evaluation, detec- populated. At the same time, the main tion of fraud or non-conformity with centre of the area, Oulu, has success- financial rules, and harmonised appli- fullytransformeditself,overonlyacou- cation of sanctions in the different ple of decades, from a stagnant smoke- Member States in the case of shortcom- stack industry town into a dynamic ings. More effective use of regional business metropolis specialising in mo- policies also requires greater synergy bile and other information technology with other Community policies in as well as biotechnology. This transfor- the areas of research, innovation and mation has, without doubt, been education. §

275 Gerhard Schwo‹ diauer Professor, Otto von Guericke University of Magdeburg

Ought We to Worry About Regional Diver- gence in the European Monetary Union?

1 Introduction policy orientation of the European Before doctors worry about a malady Central Bank (ECB) (a combination they try their best to ascertain whether of both arguments is, of course, often the patient really suffers from it. And encountered). Before discussing these when they have convinced themselves claims, I will briefly sketch what the that this is in fact the case, they will possible sources of regional hetero- search for the cause of the ailment geneity may be and with respect to before they pre- which dimensions divergence or con- scribe a ther- vergence of European regions could apy. Frequently, be measured. unbearable divergence across 2 Sources and Dimension of EU regions or Heterogeneity Across member coun- Regions tries has been di- Sources of heterogeneity may be clas- agnosed in order sified into variables that are to justify the prescription of strength- — exogenous, or ened ex-ante harmonization areas of — endogenous economic policy other than monetary relative to the process of market inte- policy and setting the rules guarantee- grationandmonetaryunification.Clas- ing the functioning of free and compet- sical examples of exogenous variables itive European markets. Favorite pre- arepreferences,primaryfactorendow- scriptions have been the stricter coor- ments, and (to some extent) technol- dination or centralization of macroeco- ogy in the sense of available blueprints, nomic fiscal policy, the equalization of but also policy-determined variables tax rates, the harmonization of social like tax systems, subsidies, labor laws, policy, centralized European wage etc.Examplesforendogenousvariables bargaining, etc. A particularly popular are outputs, incomes, prices (relative ideainthepublicpolicydebatehasbeen and absolute), capital intensities, em- the claim that Economic and Monetary ployment and unemployment rates, Union (EMU) necessitates a European industry composition of regions, etc. transfer union (ETU) as part of a fully Another useful classification of hetero- fledged fiscal federalist regime. The geneity characteristics is based on arguments in favor of a central fiscal whether they are authorityandETUhavebeeneitherthat — theresultoftheindividualdecisions without those supplements EMU of market participants (implying would enhance economic divergence endogeneity), or across European regions beyond a — part of the institutional-regulatory socially and politically acceptable level framework. or thatthe existent heterogeneity,were Finally, we might distinguish be- it not reduced, would undermine the tween variables that account for heter- credibility of the anti-inflationary ogeneity in the

276 Gerhard Schwo‹ diauer

— short run, or more or less persistent effects on rel- — long run. ative prices, employment and capital In particular, the distinction be- formation due to hysteresis phenom- tween exogenous and endogenous fac- ena.Technologyshocksarepermanent, tors of heterogeneity depends on mostly sector-specific, but sometimes whether we take a short-run or (as in the IT case) also of an aggregate long-run perspective. Most elements nature, and may affect regions asym- of the institutional-regulatory frame- metrically at least in the shorter run, work appear to be exogenous in the i.e., for an unchanged industry compo- short run but will, in fact, adjust in sition. As far as the spread of techno- the medium and long run if cross-na- logical innovation is bound to physical tional and cross-regional competition and human capital it will have a pro- among institutions is not precluded nouncedlyendogenous character.Mac- by ex-ante harmonization. On the roeconomic de- other hand, market-endogenous varia- mand shocks, bleslikerelativeprices,realwages, em- being by defini- ployment, and cross-regional invest- tion of an aggre- ment flows become quasi-exogenous gate nature, are in the short and medium run when they as such tempo- are caught in the straight-jacket of rary but may inadequate institutional arrangements, have persistent or are misguided by wrong policy- effects (e.g., on induced incentives, which cause severe private capital formation or inflation hysteresis effects. expectations) as well as asymmetric Shocks to exogenous variables consequences across nations and re- may be gions. Even centralized monetary pol- — symmetric (or common, in the icy in EMU, geared to union-wide ag- sense of affecting all the regions gregate inflation indicators, will have or nations in EMU to the same asymmetriceffectsbecauseofasymme- extent), triesintransmissionmechanisms:Parts — asymmetric (or idiosyncratic, i.e. of these asymmetries are country-spe- region-specific of country-specific due to inherited national differen- cific); ces in the credit channel (the struc- they may be of an ture of the financial sector,in particular — aggregate nature, or the importance of banks for financing — industry-specific; investment), part are region-specific and they may be because of differences in the interest — permanent (or highly persistent), sensitivity of aggregate demand due or to the heterogeneityof industrial struc- — transitory (or cyclical). tures (Mihov, 2001). Also nation-spe- The adjustment responses of en- cific differences in labor market insti- dogenous variables can be classified ac- tutions can lead to asymmetrical reac- cordingly. Preference shocks, e. g., are tions of wages, prices, and unemploy- typically industry-specific and mostly mentratestoshockswhicharecommon transitory, they may have more or less toallthemembercountriesofEMU.As asymmetric (region-specific) conse- Bruno and Sachs (1985) have shown quences, depending on the differing with respect to highly symmetric neg- sectoral composition of regions, and ative supply shocks (e.g., energy price

277 Gerhard Schwo‹ diauer

shocks), countries with strongly cen- mobility,thanEUregionsandtherefore tralized wage bargaining systems will less affected by idiosyncratic shocks, fare better in terms of shorter duration and that adjustment to shocks is typi- andmilderconsequencesofsuchshocks cally faster in U.S. regions. These em- because trade unions are inclined to in- pirical findings, based on data mostly ternalizetheinflationaryeffectsofwage from 1970 to 1990, are not a great sur- increases. Also wage bargaining sys- prise, however, since they compare a tems that are extremely decentralized long-established economic and cur- down to the firm level (allowing for the rency union with an EU before EMU internalization of the effects of wage and even before the enforcement of claims on the firmsperformance) cope the four freedoms of the single do- much better with a shock to the price of mestic market. The real question is, a highly complementary factor of proof course, what the impact of further duction than wage bargaining systems market integration promoted by EMU with an oligopolistic union structure will be. Will the OCA test, even if not (Calmfors and Driffill, 1988). satisfied ante-EMU, be passed some How rational economic policy time after the introduction of the euro? should react to shocks — and whether Before I turn to this point, let us take a itshould respondatall—dependsonthe look at the development of heteroge- kind of shock. During the advent of neity of EU regions in order to see EMU a vast empirical literature on whether divergence really is aproblem. the character of, and adjustment to, WhiletheEUcross-countrydisper- shocks in the euro area has accumulated sion of GDP per capita decreased in the (for an overview, see e.g. OECD, 1980s and early 1990s, regional dispar- 1999). ities did not show a similar tendency. This research had mainly been mo- Some studies even found some increase tivated by the debate about whether the in the cross-regional dispersion (Fager- European Union would be an opti- berg and Verspagen, 1996; Neven and mum currency area and how EMU Gouyette, 1995; Magrini, 1999). In a would compare to the U.S. or Canada verycarefulanalysisofEUregionsatthe on the optimal-currency-area (OCA) Nomenclature of Territorial Units for criteria. Some studies focused on quan- Statistics (NUTS)2 level, testing for tity indicators, such as output and em- convergence versus divergence, Bol- ployment, others on relative prices, drin and Canova (2001) arrive at the usuallytherealexchangerate,someex- conclusion that levels of regional amineboth.Asregardsthesymmetryof GDPper residentdidnotconvergedur- theimpactofshocksinEMUthestudies ingtheperiodfrom1980to1996.Their are divided in their conclusions. There results reject, however, definitely the is greater unanimity about the symme- idea that regional development is try among six to eight core countries driven by divergence and polarization. (Germany, France, Austria, Belgium, In fact, long-run growth rates of re- Netherlands, Sweden, to some extent gionalGDPpercapitashowasignificant also Italy and Finland), in particular for tendencytowarduniformitysothatrel- the time after 1992. This result is less ative differences can be expected to re- robust at the EU regional level. In their main rather stable. GDP per resident comparisonswiththeU.S. moststudies (y) can be split into labor productivity conclude that U.S. regions are more (x), the rate of employment (e) and the integrated, also with respect to factor rate of net-immigration into the re-

278 Gerhard Schwo‹ diauer

gional labor market (m), y=x(e—m). It Thus, for sufficient diversification is interesting that Boldrin and Canova cross-regional income convergence (2001) find some mild cross-regional would come about even in case of com- convergence of labor productivities. plete factor immobility. In case that for However, neither the variation in labor givenfactorendowmentsspecialization productivitynor thatintotalfactor pro- results and factor prices differ in equi- ductivity indicators can be explained by librium across regions, then interre- changes in capital-labor ratios. Given gional factor mobility would be neces- that inter-regional labor mobility is sary and sufficient for factor price rather low and real wages rigid, the equalization (if there are just two fac- slight convergence of labor productiv- tors, capital and labor, then perfect ities was purchased at the price of some mobility of one factor, e.g. capital, divergence in (un)employment rates would suffice). Traditional theory (see also Overman and Puga, 2002). would therefore It is also important to note that Boldrin suggest that the and Canova (2001) did not find any evi- uncompromising dence for a positive relationship be- pursuit of the EU tween the distribution of flows of Single Market EU Structural Funds, designed to sup- program and port regional convergence, and either the introduction the variation of labor productivity or of a common total factor productivityacross regions. currency are Typically, in the poorer regions receiv- the best means to ensure the conver- ing Structural Funds both public and gence of member countries and regions private capital-labor ratios grew and in terms of real income. converged toward those of the richer This view has, however, not been regions, but labor and total factor pro- adopted by the EU policymakers. ductivity indices did not. This, by the On the contrary,the Delors (1989) Re- way, holds not only for the regions of port claims that Historical experience GreeceandSpainforwhichBoldrinand suggests that in the absence of counter- Canova (2001) have studied relevant vailing policies, the overall impact [of time series data, but seems also to more economic integration] on periph- be characteristic for eastern Germanys eral regions could be negative. Trans- mezzogiorno syndrome. portcostsandeconomiesofscalewould tend to favor ashift in economic activity 3 Is EMU the Problem away from less developed regions, es- and ETU the Solution? pecially if they were at the periphery of Traditional economic theory, assuming the Community, to the highly devel- aggregate production functions with oped areas at its center. The economic constant returns to scale, predicts that and monetary union would have to en- unhampered free trade of goods and courage and guide structural adjust- services will lead to an international ment which would help poorer regions and interregional equalization of factor to catch up with the wealthier ones prices as long as nations or regions do (p. 22). Consequently, the European not specialize on some of the traded Commissions policy stance favors goods because of a high degree of the allocation of Structural Funds to cross-national or cross-regional varia- poorer regions (in the NUTS2 definition in relative factor endowments. tion) and, in addition, of Cohesion

279 Gerhard Schwo‹ diauer

Funds to new-coming member nations declining specialization between 1980 (presently Greece, Ireland, Portugal, and 1996 (OECD, 1999). At 2- and and Spain; rather soon another nine 3-digit levels of regional disaggregation or ten countries). Why should there theresultsaremoreambiguousbecause be need for long-term redistribution thesmaller theregion,themoreimpor- in favor of less developed regions tant will regional externalities and in- and additional side-payments to joining divisibilities be. But even at the 2-digit countries(ontopofthereasonablyslow level there is no convincing evidence phasing-in of market integration) if for increasing heterogeneity in the traditional economic theory predicts EU regions industry composition over benefits from integration for all partic- the last 20 years. Moreover, the finer ipants and even actual convergence of the regional disaggregation level at laborandcapitalincomesacrossnations which divergence phenomena emerge, and regions? the less relevant to monetary policy in The view that EU-wide market in- EMU will they be, and the stronger will tegration and adoption of a common be the arguments in favor of leaving currencygeneratesaproblemforwhich cross-regional transfers under national European fiscal federalism with cen- jurisdiction. National fiscal federalism trally provided public goods and ex- has coped quite well before EMU with plicit redistribution via transfers, both regional heterogeneity,and is in noway financed by EU taxes, has received hampered by EMU in continuing to do someacademicsupportandintellectual so in the future unless integration and credibility from the more recent theo- the common currency would under- ries of endogenous growth and Paul mine the national governments ability Krugmanswork on international trade to tax decisively. This danger is, how- and economic geography. Both strands ever, not big because of the low cross- of thinking rely cruciallyonpositiveex- national mobility of labor, due to lan- ternalities (at the individual or local guage and other cultural differences level) and increasing returns to scales much more important in the EU than (at the aggregate level). in the U.S. or Canada. This is one Krugman (1991, 1993) has argued instance when cross-national hetero- that closer market integration and in- geneity is not an argument in favor tensified competition fostered by a of EU-wide fiscal centralization. Het- common currency might result in erogeneity among the member coun- greater regional specialization thereby triesalongculturallineshasastabilizing exposing the regions in EMU to more effect on the tax bases of national gov- and more pronounced asymmetries in ernments, which allows them to bor- the effects even of EU-wide common row since they will be expected to be shocks. The empirical evidence from able to collect the taxes necessary to European data does so far not support service their debts. Krugmans (1993) divergence hypoth- There is another reason why the esis for EMU. Frankel and Rose (1997) long-run endogeneity of regional spe- refute empirically Krugmans conclu- cialization may not result in EMU be- sion. Moreover, the specialization hy- coming a less optimal currency area ex pothesis is very likely rather sensitive post: Historically measured low de- to the degree of regional disaggrega- grees of inter-regional labor mobility tion. At the NUTS0 and NUTS1 levels in European national economies reflect there is strong empirical evidence for the adjustment to a high level of diver-

280 Gerhard Schwo‹ diauer

sification of regions in terms of indus- policy. Whether this is really such a trial composition. Under such circum- loss for stabilization policy is debat- stances workers can afford to search able, however, since fiscal stabilization withintheir regionwhensome industry under fixed nominal exchange rates is hit by an adverse idiosyncratic shock. and high capital mobility (as in a mon- But it makes no sense to view the sec- etary union) becomes more effective toral composition of regions as endog- because of automatic monetary enous while assuming that cross-re- accommodation (no or little crowd- gional labor mobility stays exogenously ing-out for small countries). Besides, fixed. If, in the long run, regional spe- the distortionary allocational conse- cialization in a monetary union should quences of real exchange rate fluctua- increase according to Krugmans hy- tions, in particular of overshooting re- pothesis then we can expect labor sponses to monetary and real shocks, mobility to increase too. In general, the pessimistic outlook of the early OCA literature on the prospects of EMU seems to suffer from a back- ward-looking bias (see, e.g., Mongelli, 2002). In a currency union the burden of adjustment to shocks which hit nations or regions asymmetrically falls fully on fiscal policy. For the sub-regions of a and the uncertainty generated thereby nation which has become a member are welfare losses avoided by members of EMU this is not a completely new ofacurrencyunion.Moreover,thelike- experience. It had been a member of lihood of nation-specific asymmetric a currency union before. The plight demand shocks and strongly asyn- of the sub-region is affected only in chronic business cycles, to a consider- so far by her nation joining EMU as able extent owed to uncoordinated the asymmetryacross nations is thereby monetary policy actions, will be re- increased — if only the within-nation duced in a monetary union. asymmetry became more pronounced, Exchange rate flexibility does not theabilityofthenationalgovernmentto only have a stabilizing function with re- support the region would in no way be spect to temporary asymmetric shocks impeded. Higher cross-regional asym- for which counter-cyclical borrowing metries without concomitant higher would be a substitute. Flexible ex- within-nation correlation of regional change rate also performs an adjust- shocks cannot be used as an argument ment function with respect to perma- for EU-wide transnational transfers. nent asymmetric shocks to technolo- For the member nations of EMU giving gies, preferences, resource endow- up their independent currencies ments, tax systems, etc., affecting means, of course, the sacrifice of the the equilibrium terms of trade when flexibility of nominal exchange rates nominal prices and wages are rigid. withitsstabilizingfunctionwithrespect Members of a currency union have re- to transitory or cyclical demand or sup- nounced this adjustment mechanism, ply shocks having nation-specific asym- whichafterallworksonlyintheabsence metric effects. Stabilization has now to of real wage and price rigidities, and, rely fully on counter-cyclical fiscal consequently, have to rely either on

281 Gerhard Schwo‹ diauer

flexibility of nominal prices and wages Irish government by the EU-commis- tobringaboutthenecessaryadjustment sion (in spite of a significant Irish budg- in real exchange rates compatible with etary surplus!) was completely mis- fullemployment,oronsufficientlyhigh placed. Likewise, the observation of di- labor mobility. It is remarkable that verging current account balances despite the relatively low interregional shouldbenocauseforalarmunlessthey labor mobility for subnational Euro- are driven by government borrowing pean regions, regional exchange rate (or,asinthecaseofEast Germany,huge flexibility is not greater than in cur- cross-regional transfers) accommodat- rencyunionswithhigherlabor mobility ing excessive consumption. It is in likethe U.S. (Obstfeld and Peri,1998). fact one of the virtues of EMU that This is certainly related to the exis- it allows less developed regions to tence of extensive systems of fiscal fed- finance investment ratios well above eralism in the their savings. member states EMU per se does not make a con- of the EU which vincing case for EU-wide interregional in addition to insurance. The loss of independent some stabilizing national monetary and exchange rate function (with policies it entails affects mainly the respect to tem- speed of adjustment to shocks, and thus porary asym- increases the volatility of temporary metric shocks) disturbances. This gives a greater role provide interregional redistribution to national and regional borrowing that might be interpreted as a form which is facilitated by the integration of insurance against adverse permanent of financial markets fostered by shocks (Fata«s, 1998). While real ex- EMU. Neither does the implicit change rate flexibility and factor mobi- EMU-wide redistribution via the cen- lity solve the problem of adjustment to tral provision of public goods receive persistent real shocks, fiscal transfers much support from cross-regional het- tend to hide the adjustment problem. erogeneity:Whilethecentralprovision Even if transfers are originally intended of some public good internalizes cross- to be temporary aids to cope with the regional externalities, this has to be inevitable adjustment, they slow down weighed against the cost due to impos- the adjustment process and make addi- ing the same quantity of the public good tional transfers necessary. on regions with heterogeneous de- Progressively developing regions mands for it (Alesina and Wacziarg, (or national economies) with improv- 1999). Some externalities that are ing terms of trade will have higher in- invoked to justify steps toward an flation rates than less dynamic regions EU-wide harmonized social policy of EMU. Ireland is the prime example. (e.g.the imposition of higher minimum Such a divergence of inflation rates is welfare standards on the poorer mem- nothing to worry about, it reflects the ber states to reduce the incentives for adjustments of real exchange rates in welfare shopping by migrants) are the absence of adjustable nominal ones policy-inducedandcouldbeeliminated and poses no threat to an anti-inflation- simply by changing the rules in favor of arystanceoftheECBaslongasthelatter delayed integration of migrants into pursues an aggregate monetary target. the national welfare systems (see the In this respect, the admonition of the contributions of Tito Boeri and

282 Gerhard Schwo‹ diauer

Hans-Werner Sinn published in this pean bodies in matters that are more volume). efficientlydealtwithbynationalorlocal The pressure for installing an ETU governments.WhatEMUneedsareun- is, however, increased by an excessive equivocal rules which guarantee the interpretation of the so-called Stability functioning throughout Europe of free and Growth Pact which promotes nei- markets for goods and services, labor ther stability nor growth. On the con- and capital. These rules have to be cen- trary, it tends to hamper the stabilizing trally set and enforced. Good progress function of national and regional bor- has been made; the introduction of a rowing to cope with temporary asym- common currency was the single most metrical shocks, and it stifles growth by important step so far. It will have to be diverting political energies from deal- followed up by policies to strengthen ing with the true problems, in partic- the Single Market program, in particular the reform of labor markets and of ular with respect to factor markets, and pension systems, Moreover, by casting to create a coherent framework within doubt on the validity of the bail-out which the heterogeneity indispensable clause of the Maastricht Treaty and sug- for a market economy will not be gestingthatthestabilityoftheEuropean viewed as a threat but as a productive currencydependonapoliticallymanip- force. § ulable agreement on national fiscal deficits, the Pact undermines the credibil- References ityof theECB. As inthe unfoundedcase Alesina, A., and R. Wacziarg (1999). for harmonization of social policies the Is Europe Going too Far? In: Carnegie- externality which allegedly requires Rochester Conference Series on Public more centralization (here of fiscal pol- Policy 51: 1—42. icy to avoid negative effects of too big Boldrin, M., and F. Canova (2001). national debts on the viability of the Inequality and Convergence in Europes Europeanfinancialsystemwhichwould Regions: Reconsidering European Regional eventually force the ECB to monetize Policies. In: Economic Policy 32: 205—253. the debts) is policy-induced and could Bruno,M.,andJ.Sachs(1985).Economies be eliminated by changing the relevant of Worldwide Stagflation. Basil Blackwell, rules, e.g.by putting higher equity cap- Oxford. ital requirements on banks in propor- Calmfors, L., and J. Driffill (1988). tion to the share of risky public debt in Bargaining Structure, Corporatism and their portfolios (see, e.g., Eichengreen Macroeconomic Performance. In: Eco- and Wyplosz, 1998; Canzoneri and nomic Policy 6: 13—61. Diba, 1999). Canzoneri, M. B., and B. T.Diba (1999). The Stability and Growth Pact: A Delicate 4Conclusion Balance or an Albatross? In: Empirica 26: Unsustainable regional divergence is 241—258. certainly not a pressing problem for Eichengreen, B., and C. Wyplosz EMU that would have to be solved (1998). The Stability Pact: More Than a by ETU and a central European Eco- Minor Nuisance? In: Economic Policy 26: nomic Government. There is rather 65—113. too much convergence in EMU toward Delors, J. (1989). Report on Economic the wrong institutional arrangements and Monetary Union in the European Com- for labor markets, fiscal and social pol- munity. Report to European Council by icy,andtoomuchinterferencebyEuro- a Committee chaired by J. Delors,

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Brussels, Commission of the European European Union. In: Regional Science and Community. Urban Economics 29: 257—281. Fagerberg, J., and B. Verspagen (1996). Mihov,I.(2001).MonetaryPolicyImplemen- Heading for Divergence? Regional Growth tation and Transmission in the European in Europe Reconsidered. In: Journal of Com- Monetary Union. In: Economic Policy 33: mon Market Studies 34: 431—448. 372—406. Fata«s, A. (1998). Does EMU Need a Fiscal Mongelli, F.P. (2002). New Views on Federation? In: Economic Policy 26: the Optimum Currency Area Theory: 163—203. What is EMU Telling Us?, ECB Working Frankel, J., and A. Rose (1997). Is EMU Paper No. 138. More Justifiable Ex Post than Ex Ante? Neven, D. J., and C. Gouyette (1995). In: European Economic Review 41: Regional Convergence in the European 753—760. Community. In: Journal of Common Market Krugman, P.(1991). Increasing Returns and Studies 33: 47—65. Economic Geography. In: Journal of Political Obstfeld, M., and G. Peri (1998). Regional Economy 99: 483—499. Non-Adjustment and Fiscal Policy. In: Eco- Krugman, P.(1993). Lessons of Massachu- nomic Policy 26: 205—259. setts for EMU. In: Torres, F., and F. Giavazzi OECD (1999). EMU: Facts, Challenges, and (eds.). Adjustment and Growth in the Policies. OECD, Paris. European Monetary Union. Cambridge Overman, H. G., and D. Puga (2002). University Press. Unemployment Clusters Across Europes Magrini, S. (1999). The Evolution of Income Regions and Countries. In: Economic Disparities among the Regions of the Policy 34: 115—147.

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Gertrude Tumpel-Gugerell Gertrude Tumpel-Gugerell Vice Governor, Oesterreichische Nationalbank

Concluding Remarks

Attheendofthisfascinatingconference that we leave after many fruitful exchanges of views, it is difficult to sum up all that has been said. I would therefore like to convey three ideas that in my view characterize the main findings of this conference best: (i) There are inherent limitations to how far we can push convergence, and we will have to learn to cope with these limitations. (ii) There are different models to choose from; in other words, let us not search for the one and only. (iii) The useful principle of diversity points toward a continuing important role for national central banks. In general, Im not that fascinated by football. These days it is, of course, an issue that is bound to crop up in con- versations — especially when you talk with men. I must say,though, that there is one thing, linked to football, that has stuck with me, namely how the famous former Argentine football trainer Car- los Menotti once described football as a dialectical mixture between planning and adventure. Well, wouldnt this be a nice metaphor for the process of Economic and Monetary Union (EMU), too? Remember how most of us had a fairly straightforward idea of the convergence process, how we anticipated it to run smoothly? But as such processes go, things developed slightly different. Gertrude Tumpel-Gugerell

1 Divergence Will Remain cross-border labor services. Thus, the an Economic Policy potential of substantial welfare gains is Challenge in EMU there. On the other hand, immigration From an economic standpoint what is highly unpopular in the European matters is the degree of price conver- Union. This points to the political as- gence across euro area markets. The pect that all economic questions, even results have been disappointing to a so-called technical issues, involve. certain extent. In a number of further Economists too often just follow polit- policy areas, the divergence of the euro ical realities when they should be chal- area countries has not been reversed; lenging them through their intellectual indeed, it may even have worsened. efforts. That politically taboo issues Well, we knew right from the begin- need not put an end to economic inqui- ning that the euro area did not fulfill ries, was shown by D. Rodrik from Harvard, who recently proposed a labor contract scheme that should benefit not only the industrialized countries but also the developing countries.2) But also Tito Boeri at this conference argued strongly in favor to enhance the mobility of the European workforce by increasing the portability of social security rights and actually en- all the criteria of an Optimum Cur- forcing the equal treatment principle. rency Area (OCA), but many certainly expected the euro to work as a kind of 2 Institutional Diversities catalyst for change in this direction. CanPlayaValuable What shall policy do to cope with Economic and Social Role divergence? An area that, in my judg- AdamSmithoncecomplainedthatbusi- ment, has not gained the attention of nessmen seldom get together without economic policy it deserves is the issue their conversation turning into a con- of labor mobility. Relaxing restrictions spiracy against the public. Well,central on the international mobility of work- bankersseldommeetwithoutenvision- ers—andIdonotjustmeanthemobility ing a best-practice model based on the within the EU — stands to generate high values of their institutions. economic benefits. Just look at the However, institutions and societies price wedges that have remained de- differ inthevaluesandnormsthatshape spite the liberalization of financial their selections. Torecognize that there and goods markets. But in comparison is no unique rule-setting, that there is withthesharpwagedifferencestheyare no institutional best practice solution rather low.1) Up to now there has been to be found, will improve our policy almost no liberalization of markets for debates.3)

1 Hourly wages (before tax, including special bonuses) in the manufacturing sector, euro area average: EUR 14.9, lowest wage: EUR 4.9 (Portugal), highest wage: EUR 21.5 (Germany); ratio Germany/Portugal: 4.4/1; Source: Eurostat, Labour Cost Index 1999, published in March 2001. 2 A forced saving scheme with a mechanism ensuring a high return ratio of immigrants. 3 This argument reflects the conclusions of the booming varieties of capitalism literature; a strand of literature highlighting the importance of strategic interaction among institutions.

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Integration in the EU will remain Furthermore, we discussed exten- necessarily limited by the scope of sively the question of systems compe- institutional diversity at the national tition(Sinn)betweentheU.S.approach and regional level. Thus, I would argue and the European approach. Normally that the decisive policy question is the we mean financial systems that have adequate degree of an effective macro- tended to move toward an Anglo- economic policy coordination between American model. Labor institutions diverse institutions in EMU. As pro- remain rather divergent. And recent found integration in the EU will re- research by Marco Brecht and Colin main a vision for a long time we rather Mayer (2001) confirms that Germany have to look whether existing institu- is still far from having converged on tions conflict or complement each the British or American type of other. Sinikka Salo from Suomen ownership structure. It seems that Pankki launched an appeal to strengthening the Struc- tural and Cohesion Funds. The message Christian de Bois- sieu gave us was that enlarged supervision cooperation is going to be the best solution in the Rhineland model is still alive the short- and medium run. The close and well.2) nexus between the central bank aims of As you will recall, Hans-Werner monetary and financial stability has Sinn suggested in a convincing way that been mentioned several times and there is a likely erosion of the European points also toward the need of strength- welfarestate,inducingaracetothebot- ening cooperation between central tom leading finally to an erosion of banks and supervisory authorities. national regulatory systems. To state And Arnout Wellink stressed the im- it in his terms, the selection principle3) portant role the De Nederlandsche may lead to the more likely outcome Bank has to play in the Social and Eco- of a failure rather than a smooth func- nomic Council.1) The more general tioning of systems competition. idea underlying all these efforts toward For quite a long time there was a broad and deep cooperation was for- kind of unquestioned consensus that mulated by Joseph Stiglitz during his Europe was lagging behind and that recent visit in Vienna. We know that eco- it had to learn from the experience nomic policy making is very complicated, of the U.S. However, this convergence thus, it ought to bring together all the af- toward the American model was not fected parties. seen as unavoidable by all our partici-

1 The Social and Economic Council (SER) in the Netherlands is made up of members nominated by employers and unions, along with independent members appointed by the crown and provides advice to the government across various social and economic issues. 2 In more than half of the listed non-financial companies a single block holder controls more than 50% of the voting rights while the median block holder controls only 20% of the voting rights in France, 10% in the U.K., and 5% in the U.S. 3 Theselectionprinciplemaintainsthatstatestakeover thoseeconomicactivitiesthattheprivatemarketisunabletocarryout.

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pants. The U.S. and the EU have differ- Thus, as long as Europe remains a ent brands of capitalism and in the late community of nation states national 1990s the U.S. outperformed the EU central banks will have to play an im- on a number of key indicators of eco- portant part. nomic success but — and we should Furthermore, we should envisage stress that fact too — generated much important tasks for national central greater economic inequality. Thus, banks directly related to European some believe that the egalitarian EU monetary policy. As I think that only can compete with the market-driven in academic theory monetary policy U.S. 1) Tito Boeri titled one of his recent can be regarded as optimal rule-follow- papers Let Social Policies of USA and ing behavior; in practice, I would say, Europe Compete: Europe Will Win.2) it is rather characterized by a kind of Thus,thisisanunsolvedpolicyquestion constructive ambiguity. A crucial aim of where theresults a central bank has to be to reduce largely depend uncertainty, which is why an extensive on your norma- communication with the public and tive evaluation markets is so important. In this context criteria. My per- national central banks in the Euro- sonal answer to system haveto fulfillakey role.In order the question to avoid misperceptions of the policy whether there stance, they have to communicate to is an alternative their national audiences in a consistent modeltotheAmericanapproachwould way the rationale of the policy followed be a resounding yes. The European by the Eurosystem. Even under the as- welfarestatewithitslongandsuccessful sumption that financial global players tradition provides a rich variety of may need national central banks less policy designs and this may become in the future, for a long time to come an important resource for Europe in our role will be to communicate and the transatlantic race. discuss with national politics, national wage bargaining institutions and na- 3 Diversity Underlines the tional publics. Important Role of National Central Banks Concluding Remarks Arnout Wellink took in his extremely The EU will need to demonstrate that interesting speech the long-run per- its institutions are prepared to deliver spective and concluded that only some the policies that people want. Individ- tasks of central banks are likely to be uals look for an EU which delivers real centralized, but that fundamental benefits to them. changes in the role of national central The Convention on the Future of banks of the Eurosystem will be linked Europe provides an important oppor- to further political integration within tunity to reverse public disenchant- Europe. I agree completely with his ment with the EU. The Conventions concluding point that institutions tend aim must be an EU which is prepared to be related to feelings of identity. for the institutional challenges of an

1 Title of a paper by Richard B. Freeman (2002). 2 TitoBoeristatesthatEUsupra-nationalauthoritiesshouldresistthetemptationtoimposeaparticularsocialmodelover the others and rely instead on the mobility of the European workforce as a driving force of political integration.

290 Gertrude Tumpel-Gugerell

enlarged EU, and is better understood Brecht, M., and C. Mayer (2001). Corpo- by our citizens. We need to deepen the rate Control in Europe. In: Siebert, H. (ed.). bond between the EU and its citizens The Worlds New Financial Landscape, based on a common attachment to a Challenges for Economic Policy. set of values and effective policies that Cohen, E«., J. Pisani-Ferry (2002). deliver. Economic Policy in the US and the EU: At the end let me mention one fur- Convergence or Divergence? Harvard ther point: an enlarged EU should also University. be a buttress against extremism. The Freeman, R. B. (2002). Can the Egalitarian criteria for EU membership have been EU Compete with the Market-Driven US? clearly defined, not just in terms of Mimeo. economics but above all in terms of Iversen, T. (2001). The End of Solidarity? values, including support for the rule Decentralization, Monetarism and the of law, human rights and respect for Social-Democratic Welfare State in the minorities. § 1980s and 90s. Harvard University. Rodrik, D. (2002). Feasible Globalizations. Harvard University. Mimeo. References Stiglitz, J. (2002). Changing Paradigms in Boeri, T. (2002). Let Social Policy Models International Economic Policy. Lecture at Compete and Europe Will Win. Harvard the Netzwerk Innovation. Wirtschafts- conference, draft. konvent in Vienna.

291 Franz-Weninger-Stipendien Franz Weninger Award Franz-Weninger-Stipendien Franz Weninger Award

U‹ berreichung der auf Vorschlag einer Fachjury ver- Franz-Weninger-Stipendien geben. der Oesterreichischen Diesmal wurden die Franz- Nationalbank Weninger-Stipendien den im Folgen- Frau Vize-Gouverneur Dr. Tumpel- den genannten Personen fu‹r Arbeiten Gugerell u‹berreichte am 13. Juni 2002 mit dem jeweils angefu‹hrten Titel im Rahmen der 30. Volkswirtschaft- zuerkannt: lichen Tagung der Oesterreichischen — Mag. Gertrude Preslmair fu‹r Nationalbank die Franz-Weninger- die Disseration ªDer Transforma- Stipendien an drei Preistra‹ger. Das tionsprozess des tschechischen Franz Weninger Stipendium wird Bankensektors, von der OeNB jedes Jahr fu‹r hervor- — Mag. Stefan Povaly fu‹r die ragende Dissertationen und Diplom- Diplomarbeit ªRelationship be- arbeiten auf dem Gebiet der Geld- tween Stock and Currency Markets theorie und Geldpolitik vergeben in Emerging Regions with Particu- und erinnert an den vor sechs Jahren lar Relevance for Poland und to‹dlich verunglu‹ckten Leiter der — Clemens Jobst fu‹r die Diplom- Volkswirtschaftlichen Abteilung der arbeit ªHow to Join the Gold Oesterreichischen Nationalbank. Die Club: The Credibility of Austria- Stipendien werden vom Direktorium Hungarys Commitment to the der Oesterreichischen Nationalbank Gold Standard 1892—1913 §

293 Die Vortragenden Speakers Die Vortragenden Speakers

Urs W. Birchler Selected Publications Date of birth — DoDepositorsDisciplineSwissBanks? August 25, 1950 (With Andre«a Maechler), forth- Present Positions coming in: Research in Financial — Director, head of Systemic Stability Services, 14, 2002 Research and Policy at Swiss National — Bankruptcy Priority for Bank Depos- Bank, Zurich its: A Contract Theoretic Interpreta- — Member of Basel Committee on Bank- tion. In: Review of Financial Studies ing Supervision (13), 2000: 813—839 — Chairman of Basel Committee Re- — Aktiona‹rsstruktur und Unternehmens- search Task Force politik — Bedeutung fu‹r die Sicherheit Professional Experience des Bankensystems. In: Geld, Wa‹h- — Creation and heading of a Banking rung, Konjunktur (Quartalsheft Research Unit at Swiss National SNB), 1995 (3): 265—277 Bank — Finanzderivate — volkswirtschaftliche — Member of Basel Committee and of Bedeutung und Auswirkungen auf several other BIS working parties das Finanzsystem. (With W.Hermann — Member of OECD Expert Group on and B. Rime), in: Geld, Wa‹hrung, Banking Konjunktur (Quartalsheft SNB), — Member of several Federal expert No. 4, 1994: 336—348 (French: groups (Bank Insolvency Law, Finan- 349—362) cial Market Regulation, Cantonal Banks, Mortgage Financing) Tito Boeri Research Interests Date of Birth — Financial institutions and regulation August 3, 1958 (banking, insurance, pension funds) Present Positions — Financial contracts; law and econo- — Professor of economics at Bocconi mics University, Milan — Endogenous information (incl. appli- — DirectoroftheDegreeinInternational cations) Economics and Management (DIEM) — General microeconomics and of the Fondazione Rodolfo Debe- Education nedetti — Habilitation Universita‹t Bern (venia Professional Experience docendi: Volkswirtschaftslehre) in — Senior economist at the Organisation 2001 for Economic Co-operation and — Visiting scholar, Research Depart- Development (OECD) from 1987 ment, Federal Reserve Bank of Rich- to 1996 mond from September to December — Consultant to the International Mon- 1995 etary Fund, the ILO, the World Bank, — Dr. oec. publ., Universita‹tZu‹rich in the Italian Prime Minister office, and 1980 Ministries of Economy and Welfare Other Activities Research Interests — Teaching of graduate courses at several — Labor economics universities: St. Gallen, Zurich, Bern, — Social policy Leipzig on a wide range of topics — Economics of transition (financial institutions, financing tech- Education niques, financial law and regulation, — Degree in economics at Bocconi Uni- applied information economics) versity

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— Ph.D. in economics at New York Uni- — Visiting professor at the Universities versity of Kaiserslautern, Konstanz and Other Activities Wu‹rzburg from 1990 to 1992 — Director of the Fondazione Rodolfo Research Interests Debenedetti — Monetary theory and policy — Associate professor of economics and — European integration research fellow of the Innocenzo Gas- — Economic transformation parini Institute of Economic Research Education — Research fellow of CEPR and of the — Studied economics at the Saarland William Davidson Institute, Univer- University from 1973 to 1978 sity of Michigan Business School — Ph.D. (rer.pol.) in 1984 Selected Publications — University teaching qualification at — Structural Change, Welfare Systems the School of Law and Economics, and Labour Reallocation. Oxford Uni- Saarland University versity Press, 2000 Other Activities — Welfare and Employment in a United — Research Fellowof the Centre for Eco- Europe. (With G. Bertola and nomic Policy Research, London G. Nicoletti), MIT Press, 2000 — Editorial Board: — TheRoleofUnionsinthe21st Century. — Economics of Transition (With A. Brugiavini and L. Calmfors), — Economics of Planning Oxford University Press, 2001 — International Journal of Finance & — Institutional Determinants of Reallo- Economics cation in Transition. (With K. Terrell), Selected Publications in: Journal of Economic Perspectives, — Monetary Policy: Goals, Institutions, 2002 Strategies, and Instruments. Oxford — Pension Reforms and the Opinions of University Press, 2001 European Citizens. (With A. Boersch- — Kazakstan 1993—2000: Independent Supan, and G. Tabellini),in: American Advisors and the IMF. (With L. Hoff- Economic Review, 2002 mann,H.Flassbeck,andA.Steinherr). Springer 2001; also available in Rus- Peter Bofinger sian language Date of Birth — Stabilita‹tskultur in Europa (with C. September 18, 1954 Hefeker and K. Pfleger), Stuttgart Present Position 1998 — Professor at the Economics, Monetary — A Framework for Stabilizing the Euro/ and International Relations Depart- Yen/Dollar Triplet. In: North Amer- ment, University of Wu‹rzburg, since icanJournalofEconomicsandFinance, 1992 Vol. 11, Dezember 1998: 137—151 Professional Experience — Geldpolitik: Ziele, Institutionen, — Member of the Scientific Staff at the Strategien und Instrumente. (With German Council of Economic Experts J. Reischle and A. Scha‹chter), from 1978 to 1981 Mu‹nchen 1997 — Teaching member at the Saarland University(Chair:ProfessorWolfgang Stu‹tzel) before 1985 — Worked in the Economics Division at the Land Central Bank Baden- Wu‹rttemberg from 1985 to 1990

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Christian de Boissieu — Monnaie et Economie. Economica, Date of Birth Paris, 1998 March 18, 1947 — Les mutations de le«conomie mon- Present Positions diale. (Editor), Economica, Paris, — Professor at the University of Paris I 2000 (Panthe«on-Sorbonne) — Les Entreprises Francaises 2001. (Ed- — Professor at the College of Europe itor), Economica, Paris, 2001 (Bruges) — Les Entreprises Francaises 2002. (Ed- — Consultant to the World Bank and to itor), Economica, Paris, 2002 the European Commission Professional Experience Fritz Breuss — Post-doctoral fellow at Northwestern Date of Birth University and Harvard University September 6, 1944 from 1973 to 1974 Present Positions — Visiting scholar at the University of — Professor at the Research Institute for Minnesota in 1978 European Affairs at the University of — Visiting scholar at the Board of Gov- Economics and Business Administra- ernors of the Federal Reserve System tion Vienna since 1993 (Washington, D.C.) in 1982 — Jean Monnet professor for Economics Research Interests of European Integration at the Univer- — Monetary analysis sityofEconomics andBusiness Admin- — Economic policy istration Vienna since 1995 Education — Economist, Austrian Institute of Eco- — Ph.D. in economics from the Univer- nomic Research (WIFO), Vienna/ sity of Paris in 1973 Austria, since 1974 Other Activities Professional Experience — Economic adviser to the Paris Cham- — Visiting scholar at the Department of ber of Commerce and Industry Applied Economics, University of — Member of the Conseil National du Cambridge/England, from 1980 to Cre«dit, Comite« des Etablissements 1985 de Cre«dit et des Entreprises dInves- — Visiting scholar at the Department of tissement (CECEI) Economics, University of California, — Member of the Comite«delaRe«gle- Berkeley/USA, in 1985 mentation Bancaire et Financie«re — Lecturer at the University of Econom- — Honorary president of the French icsandBusinessAdministrationVienna Finance Association (International Economics) from 1981 — Former member of the advisory board to 1985 of J. P. Morgan (France) — Associated professor (Dozent) at the — Memberof the European Shadow Reg- University of Economics and Business ulatory Committee Administration Vienna from 1985 to — Member of the Council of Economic 1993 Analysis created by the French govern- Research Interests ment — International economics Selected Publications — European integration — Banking in France. (Editor), Rout- Education ledge, London, 1990 — Magister(UniversityofVienna)in1972 — Lesmutationsdele«conomiefrancaise. — Doctoral degree (University of (Editor), Economica, Paris, 1997 Vienna) in 1974

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Selected Publications Education —O‹ sterreichs Au§enwirtschaft 1945 bis — Degree in General Economic Sciences 1982. Vienna 1983 (Gent University, Belgium) in 1972 — Die Vollendung des EG-Binnen- — Master Company Financial Manage- marktes. Gesamtwirtschaftliche Aus- ment (VLEKHO, Belgium) in 1982 wirkungen fu‹rO‹ sterreich. Makro- Other Activities o‹konomische Modellsimulationen. — Director of EHSAL and Erste Bank (With F. Schebeck), WIFO study, — Treasurer of Vlaams Omroeporkest en Vienna 1989 Kamerkoor — TheWorldEconomyafter theUruguay Round. (Editor), Vienna 1995 Paul De Grauwe — Reifegrad der mittel- und osteuropa‹i- Date of Birth schen EU-Beitrittswerber (Coordina- July 18, 1946 tion). WIFO Study, Vienna 1999 Present Positions — Vom Schuman-Plan zum Vertrag von — Professor at the Catholic University of Amsterdam: Entstehung und Zukunft Leuven, Belgium der EU. (Edited with G. Fink and St. — Senator and chairman of the Economic Griller), Springer Vienna—New York and Finance Committee at the Belgian 2000 Parliament Professional Experience Dirk Bruneel — Economist International Monetary Date of Birth Fund from 1973 to 1974 June 20, 1950 — Associate professor at Catholic Uni- Present Positions versity of Leuven, Belgium, from — Member of the Executive Committee, 1974 to 1982 Dexia Holding, since 2001 — Visiting professor Wharton School — — Director of FSA since 2001 University of Pennsylvania in 1983 Professional Experience — Professor College of Europe, Bruges, — ASLK-CGER Bank, Economics De- from 1984 to 1986 partment, from 1973 to 1993 — Visiting scholar in the Bank of Japan in — Managing director as of 1992 1987 — BACOB Bank s.c. from 1993 to 2001 — Senior researchfellowattheCentrefor — Member of the Board of Manage- European Policy Studies, Brussels, ment and managing director as of from 1988 to 1991 1993 — Belgian Parliament senator from 1991 — Chairman of the Management to 1995 Board as of 1995 — Belgian Parliament member of the — Artesia Bank House from 1995 to 1999 — Director as of 1997 Research Interests — Member and chairman of the — International monetary economics, Management Board in 1998 more specifically in issues relating to — Dexia Bank monetary integration and exchange — Member of the Management Com- rate economics mittee in 2001 Education Research Interests — Licentiaat-Doctorandus;CatholicUni- — Financial markets activities versity of Leuven, Department of Eco- nomics

298 Die Vortragenden Speakers

— Ph.D.; The Johns Hopkins University, — Professorofmacroeconomics,Univer- Baltimore, Department of Political sity of Amsterdam from 1970 to 1973 Economy — Minister of Finance, the Netherlands Other Activities from 1973 to 1977 — Chairman of Task Force preparing — Member of Parliament for the Partij Belgianprofitsharinglegislation(2000) van de Arbeid (Socialist Party) from — Chairman of Task Force preparing 1977 to 1978 Belgian Corporate Governance legis- — Member and vice-chairman of the Ex- lation (2000) ecutive Board of Rabobank Nederland — Member of Board of Editors of various from 1978 to 1981 journals — Executive director of De Nederland- Selected Publications sche Bank from 1981 to 1982 — Central Banking: Art or Science? — President of De Nederlandsche Bank Lessons from the Fed and the ECB. from 1982 to 1997 In: International Finance, 2002 — President of the European Monetary — Do Asymmetries Matter for European Institute from 1997 to 1998 Monetary Policy? (With Y.Aksoy, and Education H. Dewachter), in: European Eco- — Degreeineconomics(cumlaude)from nomic Review 46(3), 2002: 443—469 the University of Groningen — Exchange Rates in Search of Funda- — Ph.D. at the University of Groningen; mentals: The Case of the Euro-Dollar doctoral thesis: Economic consequen- Rate. In: International Finance, Vol.3, ces of disarmament Issue 3, 2000: 329—356 Other Posts — Monetary Policies in the Presence of — ChairmanoftheBoardandpresidentof Asymmetries. In: Journal of Common theBankforInternationalSettlements, MarketStudies, Vol.38,Issue4,2000: Basle from January 1988 to December 593—612 1990, and from January 1994 to June — The Impact of EMU on Trade Flows. 1997 (With F. Skudelny), in: Weltwirt- — Member of the Board of Patrons of the schaftliches Archiv, Review of World European Association for Banking Economics, Vol. 136, Issue 3, 2000: History, Frankfurt since 1990 381—402 — Member of the Board of Directors of theBankforInternationalSettlements, Willem F. Duisenberg Basle from January 1982 to June 1997 Date of Birth — Chairman of the Committee of the July 9, 1935 Governors of the Central Banks of Present Position the Member States of the EEC from — President of the European Central January to December 1993 Bank since June 1, 1998 — Member of the Council of the Euro- Professional Experience pean Monetary Institute from January — Teaching assistant, University of Gro- 1994 to June 1997 ningen from 1961 to 1965 — Governor of the International Mone- — Staff member of the International tary Fund, Washington, D.C. from Monetary Fund, Washington, D.C. January 1982 to June 1997 from 1965 to 1969 Selected Publications — Adviser to the Governing Board of Author of numerous publications and ar- De Nederlandsche Bank from 1969 ticles in the areas of economics and mon- to 1970 etary policy

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Alexander Italianer — The External Implications of the Date of Birth Single Currency. (With A. Be«nassy March 16, 1956 and J. Pisani-Ferry), in: Economie Present Position et Statistique, Special issue, 1994: — DirectorforInternationalAffairsatthe 9—22 European Commission, Directorate- — Regional Stabilisation Properties of General for Economic and Financial Fiscal Arrangements: What Lessons Affairs, since April 2002 for the Community? (With J. Pi- Professional Experience sani-Ferry), in: J. Mortensen (ed.). — Research assistant at the Catholic Uni- Improving Economic and Social Cohe- versity of Leuven (BE) from 1980 to sion in the European Community. 1985 St. Martins Press, 1994: 155—194 — European Commission — Whither the Gains from European — Econometric Models division from Economic Integration? In: Revue 1985 to 1989 Economique, Vol. 45, No 3, May — Unit Economic aspects of integra- 1994: 689—702 tion and evaluation of external pol- — One Market, One Money. (With M. icy as of 1989 Emerson, D. Gros, J. Pisani-Ferry — Head of the unit Economic aspects and H. Reichenbach), Oxford Uni- of integration and evaluation of ex- versity Press, 1992. ternal policy in 1994 — MemberoftheCabinetofPresident Olivier Lefebvre Jacques Santer of the European — October 1, 1957 Commission from 1995 to 1999 Present Position — Head of Cabinet to Commissioner — ExecutiveVice-PresidentandMember Gu‹nter Verheugen, responsible for of the Managing Board of Euronext Enlargement, from 1999 until N.V. 2002 Professional Experience Research Interests — EconomistattheUniversityofLouvain — Economic and Monetary Union (UCL) in 1981 — Integration economics — Economic research department of — International trade and macroeco- Generale Bank (now Fortis Bank) nomic modelling for two years Education — AdvisorandlateronchiefofstaffofMr. — Graduated in econometrics at the Uni- Philippe Maystadt, the Belgian Minis- versity of Groningen (NL) in 1980 ter of Finance, from 1990 to 1995 — Ph.D. in economics (cum laude) at the — President of the Executive Committee University of Groningen in 1986 of the Brussels Stock Exchange and Other Activities after its merger with Belfox and — Member of the advisory board (Cen- CIK in 1999 president of the Executive trale Plancommissie) of the Dutch Committee of Brussels Exchanges s.a. Central Planning Bureau Education — Member of the Editorial Board of its — MBA (Cornell) 1984 publication CPB Report — Doctor in Economics (UCL) in 1990 Selected Publications Other Activities — The Euro and Internal Economic — Invited lecturer at several universities Policy Coordination. In: Empirica, Vol. 26, No. 3, 1999: 201—216

300 Die Vortragenden Speakers

Klaus Liebscher Professional Experience Date of Birth — Chief economist and chief manager at July 12, 1939 the Reserve Bank of New Zealand Present Positions — Group head at the National Economic — Governor of the Oesterreichische Development Office in London Nationalbank (OeNB) since Septem- — Director (CEO) of the New Zealand ber 1998 Institute of Economic Research in — Member of both the Governing Coun- Wellington cil and the General Council of the — Senior research fellow at the National European Central Bank (ECB) since Institute of Economic and Social Re- June 1998 search in London — Represents the OeNB at the Bank for Research Interests InternationalSettlements(BIS)Gover- — Future development of monetary and nors Meeting since June 1995 financial integration in Europe — Austrias governor to the International Education Monetary Fund (IMF) since June 1995 — MA (Oxford) Professional Experience — Ph.D. (Bristol) — Raiffeisen Zentralbank O‹ sterreich AG Other Activities from 1968 to 1995 — Editor of the Economic Journal since — Member of the Executive Board from 1976 1980 to 1995 — Adjunct professor in the National — Chief executive officer and Chairman Centre for Research on Europe at of the Board from 1988 to 1995 the University of Canterbury — President of the Vienna Stock Ex- — Member of the Maas Group on the change Council from 1990 to 1995 introduction of the single currency — Member of the supervisory boards of — Co-ordinator of the ESRC and COST severalbanksandothercorporationsin A7 programs on The Evolution of Austria and abroad from 1980 to 1995 Rules for a Single European Market — Member of the General Council of the from 1990 to 1994 OeNB from 1988 to 1998 Selected Publications — President of the OeNB from 1995 to Manifold publications in economics and 1998 related areas, including over 20 books Education — Improving Banking Supervision — Law degree (Dr. iur.) from the Uni- — Social Exclusion and European Policy versity of Vienna — Achieving Monetary Union Selected Publications — Sources of Productivity Growth Author of numerous publications and — Sharpbenders:TheSecretsofUnleash- articles in the areas of monetary policy ing Corporate Potential and economics Gareth D. Myles David G. Mayes Date of Birth Date of Birth January 2, 1961 May 30, 1946 Present Positions Present Positions — Professor of economics at the Uni- — Advisor to the Board at the Bank of versity of Exeter since 1995 Finland since 1997 — Research fellow at the Institute for — Professor of economics at South Bank Fiscal Studies since 1998 University in London since 1997

301 Die Vortragenden Speakers

Professional Experience Heinrich Neisser — Lecturer in economics at the Univer- Date of Birth sity of Warwick from 1987 to 1992 March 19, 1936 — Senior lecturer in economics at the Present Positions University of Exeter from 1992 to — Professor of political science, Jean 1995 Monnet Chair,Leopold-Franzens Uni- Research Interests versity of Innsbruck — Public economics — Honorary professor, University of — Microeconomic theory Vienna, Institute for Political Science Education Professional Experience — BA at the University of Warwick — Undersecretary of State, Federal — MSc at the London School of Econom- Chancellery, from 1969 to 1970 ics — Member of the Austrian Parliament — D.phil. at the Nuffield College, Ox- (first chamber) since 1975 ford; Dissertation Supervisor: Profes- — Minister responsible of Federalism and sor Sir James Mirrlees of the Reform of the Public Adminis- Other Activities tration from 1987 to 1989 — Managing editor, Fiscal Studies, since — Floor-leader, Austrian Peoples Party, 1998 Austrian Parliament (first chamber) — Production editor and editorial board, from 1990 to 1994 Review of Economic Studies, since — Second president of the Austrian 1996 Parliament (first chamber) from — Associateeditor,JournalofPublicEco- 1994 to 1999 nomic Theory, since 1999 — MemberoftheConventionelaborating Selected Publications a Charter of Fundamental Rights of — Income Distribution, Taxation and the the EU, 1999/2000 Private Provision of Public Goods. Research Interests (With J.-I. Itaya, and D. de Meza), — The political system of the European in: Journal of Public Economic Union Theory, 4, 2002: 273—297 — Comparative parliamentary systems — Economic Mismeasurement and the — The role of bureaucracy Bias in Policy Choice. In: Journal of — Political reform in the new democra- Public Economic Theory, 3, 2001: cies in Eastern Europe 139—166 Education — On the Membership of Decision- — Studied sociology and economics at MakingCommittees.(WithI.G.Bulk- the University of Vienna ley, and B. R. Pearson), in: Public — Ph.D. (Law School) at the University Choice, 106, 2001: 1—22 of Vienna — Imperfect Competition and the Opti- Other Activities mal Combination of Ad Valorem and — Chairman of the Kuratorium des SpecificTaxation.In:InternationalTax Instituts fu‹rHo‹here Studien (Institute and Public Finance, 3, 1996: 29—44 for Advanced Studies — IHS) — Public Economics. Cambridge Uni- — President of the O‹ sterreichische For- versity Press, 1995 schungsgemeinschaft (Austrian Re- search Association) — President of the Politische Akademie

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Selected Publications — VPK,VereinigtePensionskasseAG, Author and editor of about 20 books and Vienna more than 80 articles in different journals — Member of the Supervisory Board of and publications — Generali Holding AG,Vienna — Die EG als politisches System. Wien, — Oesterreichische Kontrollbank AG, 1993 Vienna — DieEuropa‹ischeUnion.Anspruchund —Céska sporítelna, Praha Wirklichkeit.(WithB.Verschraegen), — Member of the Board of The Austria Wien, 2001 Fund, New York — The EU and Fundamental Rights. In: G. Bischof, A. Pelinka, and M. Richard Portes Gehler (eds.). Austria in the EU. Con- Date of Birth temporary Austrian Studies, Vol. 10, December 10, 1941 New Brunswick and London, 2002: Present Positions 12—21 — Professor of economics at London — Auf der Suche nach Europa. In: H. Business School since 1995 Denz (ed.). Die europa‹ische Seele. — President of the Centre for Economic Wien, 2002: 241—254 Policy Research (which he founded — The Role of National Parlaments in in 1983) European Integration. In: 32. Jahr- — Directeur detudes at the Ecole des buch der Diplomatischen Akademie Hautes Etudes en Sciences Sociales Wien, 1996/97: 129—135 in Paris since 1978 Professional Experience Reinhard Ortner — Assistant professor of economics and Date of Birth international affairs at Princeton Uni- January 6, 1949 versity from 1969 to 1972 Present Position — Professor of economics at the Uni- — Member of the Managing Board of versity of London from 1972 to Erste Bank AG since 1984 1994 (head of Birkbeck College Professional Experience Department of Economics from — Erste o‹sterreichische Spar-Casse since 1975 to 1977 and from 1980 to 1971 1983) — Various functions in accounting/ — Distinguished global visiting professor controlling from 1973 to 1977 at the University of California, Berke- — Head of Accounting and Control ley, in 1999/2000 from 1977 to 1984 Research Interests Education — International macroeconomics — Studiesofsocialandeconomicsciences — International finance at the University of Vienna (specializa- — European integration tion in monetary theory and monetary Education policy) — BA, Yale University, 1962 — Masters degree in economics — MA(Oxon.), 1965 Other Activities — D.Phil., Oxford University, 1969 — Chairman of the Supervisory Board of — D.Sc. h.c., Universite« Libre de Brux- — Erste Bank Hungary, Budapest elles; D.Phil. h.c., London Guildhall — Erste & Steierma‹rkische Bank d.d., University Zagreb Other Activities — Slovenska sporitelná; Bratislava — Fellow of the Econometric Society

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— Secretary-general of the Royal Eco- — Head of Country Analysis, Monetary, nomic Society Economics and Statistics Department, — Senior editor and co-chairman of the European Monetary Institute from Board of Economic Policy 1995 to 1998 — Member of Commission Economique — Head of Monitoring Division, Mone- de la Nation (France) tary Policy Department; senior econ- — Member of Group of Economic Advis- omist, Financial Markets Department, ers to the President of the European Bank of Finland from 1990 to 1995 Commission — Associateprofessorofeconomics,Uni- Selected Publications versity of Helsinki; on secondment — The Emergence of the Euro as an Inter- from the Bank of Finland from 1992 national Currency. (With H. Rey), to 1993 In: Economic Policy 26, April — Senior research fellowatThe Research 1998: 305—343 Institute of the Finnish Economy — Information and Capital Flows. (With (ETLA) from 1974 to 1990 H. Rey and Y. Oh), in: European Research Interests Economic Review 45, April 2001: — Monetary policy, financial markets, 783—796 housing markets and finance, house- — Defining Benchmark Status: An Appli- holdsaving/investment,labor markets cation Using Euro-Area Bonds. (With Education P. Dunne and M. Moore), CEPR Dis- — Doctor of Political Sciences (econom- cussion Paper 3490, NBER Working ics) at the University of Helsinki in Paper 9087, 2002 1990 — Making Sense of Globalization: — Licentiate in Political Sciences (eco- A Guide to the Economic Issues. nomics) at the University of Helsinki (Co-author and editor), study com- in 1985 missioned from the Centre for Eco- — Master of Political Sciences (statistics) nomic Policy Research by the Group at the University of Helsinki in 1974 of Policy Advisors to the President — Bachelor of Sciences (mathematics) at of the European Commission, Policy the University of Helsinki in 1970 Paper No. 8, CEPR, July 2002 Other Activities — The euro and the international finan- — Member of the International Relations cial system. CEPR Discussion Paper Committee of the Eurosystem 2000 No. 2955, forthcoming in: M. Buti — MemberoftheEconomicandFinancial and A. Sapir (eds.). EMU: Early Committee of the European Union Challenges and Long-Run Perspec- 2000 tives — President and member of the Board of the Finnish Economic Association Sinikka Salo from 1993 to 1996 Date of Birth Selected Publications September 30, 1948 Author of monographs and articles in Present Position economic journals and books as well as — Member of the Board, Bank of Finland in economic newspapers since 2000 Professional Experience — Primary economist, Directorate Gen- eral Economics, European Central Bank from 1998 to 2000

304 Die Vortragenden Speakers

Anthony M. Santomero — Financial Markets, Instruments, and Date of Birth Institutions. (With D. Babbel) September 29, 1946 — Challenges for Modern Central Bank- Present Position ing. (With S. Viotti, and A. Vredin) — President of the Federal Reserve Bank of Philadelphia since 2000 Albrecht Schmidt Professional Experience Date of Birth — Various academic and managerial March 13, 1938 positions at the University of Penn- Present Position sylvanias Wharton School for thirty — Spokesman for the Board of Managing years Directors at Bayerische Hypo- und Research Interests Vereinsbank AG (before 1998: Bayeri- — Financial risk management and finan- sche Vereinsbank AG), Munich, since cial structure 1990 — Financial institutions and markets Professional Experience — Financial negotiation — Bayerische Vereinsbank AG, Mortgage Education Department, from 1967 to 1973 — AB in economics from Fordham Uni- — Member of the Board of Managing versity in 1968 Directors at Nu‹rnberger Hypotheken- — Ph.D. in economics from Brown Uni- bank AG from 1973 to 1979 versity in 1971 — Member of the Board of Managing — Honorary doctorate from the Stock- Directors at Bayerische Vereins- holm School of Economics in 1992 bank AG, Munich, from 1979 to 1990 Other Activities Education — Chairman of the Mayors Council of — Law studies in Tu‹bingen and Munich Economic Advisors for the City of (1st and 2nd State Bar Exam, Munich) Philadelphia — Doctorate in law from the University — Chairman of the Economic Advisory of Munich (Dr. jur.) Board of the Stockholm Institute for — Dr. oec. h.c. (University of Munich, Financial Research 2002) — Member of: Other Activities — Visiting Committee for the School — Major Supervisory Board Mandates of Business at the University of — Bank Austria Creditanstalt Aktien- Delaware gesellschaft, Vienna (Chairman) — Advisory Boards of the Wharton —Mu‹nchener Ru‹ckversicherungs- Financial Institutions Center Gesellschaft AG, Munich — Penn Institute for Economic Re- — Siemens Aktiengesellschaft search — HVB Real Estat Bank AG (Chair- — Copenhagen Center for Law Eco- man) nomics and Financial Institutions — Selected Mandates — Italian Bankers Associations Euro- — Max-Planck-Gesellschaft Mu‹nchen pean Banking Report (Member of Senate) — Consultant for leading financial insti- — Ludwig-Maximilians-Universita‹t tutions in the U.S. and abroad Mu‹nchen (Member of University Selected Publications Council) More than 100 articles, books and mono- Selected Publications graphs on financial sector regulation and Various publications on financial and eco- economic performance nomic matters

305 Die Vortragenden Speakers

Wolfgang Schu‹ ssel Gerhard Schwo‹ diauer Date of Birth Date of Birth June 7, 1945 May 12, 1943 Present Position Present Position — Federal Chancellor since February 4, — Professor of economics at the Ottovon 2000 Guericke University of Magdeburg, Professional Experience Germany, since 1993 — Secretary of the Parliamentary Caucus Professional Experience of the Austrian Peoples Party (O‹ VP) — Post-graduate fellowship and assis- from 1968 to 1975 tantship at the Institute for Advanced — Secretary general of the Austrian Busi- Studies in Vienna from 1966 to ness Federation, one of the three 1970 branches oftheAustrian PeoplesParty — Research associate at New York Uni- from 1975 to 1991 versity (with Oskar Morgenstern) — Minister for Economic Affairs in the during 1971 Austrian Federal Government (coali- — Managing editor of the then founded tion government formed by the Social International Journal of Game Theory Democratic Party of Austria and the from 1971 to 1979 Austrian Peoples Party) from 1989 — Director of the Institute for Advanced to 1995 Studies in Vienna from 1973 to 1979 — Minister for Foreign Affairs and Vice- — Appointed to a Chair in Economics at Chancellorwiththefourthandthefifth the University of Bielefeld, Germany, Federal Government Cabinet formed in 1979 by Chancellor Franz Vranitzky and — Member of the Graduate Center in with the first Government Cabinet Mathematical Economics of Chancellor Viktor Klima) from — Several visiting professorships at New 1995 to 2000 York University and the University of Education Siena, Italy — LawStudiesattheUniversityofVienna Research Interests (Dr. jur.) — Game theory Other Activities — General equilibrium theory — Elected chairman of the Austrian — Strategic interaction of monetary and Peoples Party at the 30th Party Con- fiscal policy, population economics gress in 1995 — Transition economics — President Julius Raab Foundation Education Selected Publications — Graduated from the Vienna Business — Mehr Privat — weniger Staat. (With School in 1965 J. Hawlik), 1983 — Doctorsdegreeineconomicsfromthe — Staat la§ nach. (With J. Hawlik), 1985 University of Vienna in 1970 — Ideen die gehn. Mitarbeiterbeteili- Other Activities gung. 1985 — Scientific coordinator of the newly es- — Das rot-wei§-rote Weltkugelbuch. tablished German-Russian Center of (With A. Komarek), 1998 Economics in Moscow — Im Namen der Zukunft. 1999 Selected Publications —U‹ ber die zeitliche Nutzung der Natur. (With B. Frey), in: Schmollers Jahr- buch 91, 1971

306 Die Vortragenden Speakers

— Competition and Collusion in Bilateral Education Markets. (With O. Morgenstern), in: — Habilitation and venia legendi in eco- Zeitschrift fu‹r Nationalo‹konomie 36, nomics at the University of Mannheim 1976 in 1983 — Economics and the Theory of Games: — Dr.rer.pol. at the University of Mann- ASurvey.(WithA.Schotter),in:Jour- heim in 1978 nal of Economic Literature 18, 1980 — Diplom Volkswirt at the University of — The Impact of Taxation on the Mu‹nster in 1972 Distribution of Wealth in an Economy Other Activities with Changing Population. (With A. — Supervisory Board, HVB Group since Wenig), in: Journal of Population January 2000 Economics 3, 1990 — Vice president of the International — Restructuring Ukrainean Enterprises Institute of Public Finance since 2000 After Privatization: Does Ownership — Chairman of the Verein fu‹r Social- Matter? (With I. Akimova), in: Atlan- politik (German Economic Associa- tic Economic Journal 28, 2000 tion) from 1997 to 2000 — Scientific Advisory Council of the Hans-Werner Sinn Institute for Advanced Studies, Vienna Date of Birth since 2002 March 7, 1948 — European Economic Advisory Group Present Positions at CESifo since 2001 — President of Ifo Institute for Economic — Northrhine-Westfalian Academy of Research since 1999 Sciences since 2001 — CEO of CESifo Inc. since 1999 Selected Publications — Professor of Economics and Public 13 books with 22 editions in 6 languages Finance, University of Munich since (without edited books) and more than 180 1984 published articles. More than 60 articles — Director of CES — Center for Eco- have appeared in refereed scientific jour- nomic Studies, University of Munich nals since 1991 — The New Systems Competition. Yrjo‹ Professional Experience Jahnsson Lectures, Basil Blackwell, — Associate/Full Professor,Department Oxford, forthcoming 2002 of Economics, University of Western — Jumpstart. The Economic Unification Ontario, Canada from 1978 to 1979, of Germany. (With G. Sinn), MIT and from 1984 to 1985 Press: Cambridge, Mass. etc. 1992. — Associate Professor (C2), University (Second English edition 1993; Ger- of Mannheim in 1983 man editions: Kaltstart, Mohr, Tu‹bin- — Lecturer/Senior Lecturer, Depart- gen 1991, 1992, and DTV, Munich, ment of Economics and Statistics, Uni- 1993; Korean, French and Russian ed- versity of Mannheim from 1974 to itions 1994) 1983 — Capital Income Taxation and Resource — Lecturer, Institute of Public Econom- Allocation. North Holland, Amster- ics, University of Mu‹nster from 1972 dam etc. 1987. (German edition: Ka- to 1974 pitaleinkommensbesteuerung, Mohr, Research Interests Tu‹bingen 1985) — Fiscal policies — Economic Decisions under Uncer- — Taxation and resource allocation tainty. North Holland, Amsterdam — Systems Competition etc. 1983. (German edition: O‹ kono-

307 Die Vortragenden Speakers

mische Entscheidungen bei Ungewi§- —E«cole Nationale dAdministration in heit, Mohr, Tu‹bingen 1980, second 1969 English edition: Physica, Heidelberg Other Activities 1989) — Chairman of the Monetary Policy Council of the Banque de France since Jean-Claude Trichet 1994 Date of Birth — Member of the Governing Council of December 20, 1942 the European Central Bank since 1998 Present Positions Selected Publications — Governor of the Banque de France Author of numerous publications and ar- since 1993 ticles in the areas of monetary policy and — Member of the Governing Council of economics the European Central Bank — Alternate governor for the Inter- Gertrude Tumpel-Gugerell national Monetary Fund Date of Birth — Member of the Board of the Bank for November 11, 1952 International Settlements Present Positions Professional Experience — Vice governor of the Oesterreichische — VariouspostsattheMinistryofFinance Nationalbank since September 1998 in the General Inspectorate of Finance — Chief executive director of the Eco- and later in the Treasury Department nomics and Financial Markets Depart- — Secretary General of the Interministe- ment since 1997 rial Committee for Improving Indus- Professional Experience trial Structures in 1976 — Economics Department of the Oester- — Adviser to the cabinet of the Minister reichische Nationalbank from 1975 to for Economic Affairs (Rene« Monory) 1980 in 1978 — Financial Analysis and Policy Training — Adviser to the President of the Repub- Program of the International Mone- lic (Valery-Giscard dEstaing) in 1978 tary Fund in 1980 — Deputy head of Bilateral Affairs at the — Economic policy advisor to the Min- TreasuryDepartmentfrom1981to1984 ister of Finance from 1981 to 1984 — Head of International Affairs at the — Member of the Supervisory Board of Treasury Department O‹ sterreichische La‹nderbank AG from — Chairman of the Paris Club (sovereign 1981 to 1984 debt rescheduling) from 1985 to 1993 — Deputy head of the Economics Divi- — Head of the Treasury Department in sion of the Oesterreichische National- 1987 bank from 1985 to 1986 — Censor of the General Council of the — Comptroller general at the Oester- BanquedeFranceanddeputygovernor reichische Nationalbank from 1986 of the IMF and the World Bank to 1992 — Chairman of the European Monetary — Director of the Area Corporate Plan- Committee from 1992 to 1993 ning and Management at the Oester- — Member of the board of the European reichische Nationalbank from 1992 to Monetary Institute from 1994 to 1998 1997 Education Research Interests — Inge«nieur Civil des Mines — Financial supervision — Masters in economics at the Institut — Monetary economics dE«tudes Politiques de Paris

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Education Research Interests — Graduated with honors from the Uni- — International finance versity of Vienna with a masters de- — Monetary economics gree in economics and social sciences — Central banking — Doctorate of economics and social sci- Education ences in 1981 — Diploma in economics (Diplom Volks- Other Activities wirt) from the University of Konstanz, — Member of the Council for the Foun- Germany dationofFachhochschulen(specialized — Doctorate in economics from the Uni- institutions of higher education) in versity of Siegen Austria — University teaching qualification — Member of the International Relations (Habilitation) from the University of Committee and the Banking Super- Siegen in 1994 vision Committee of the ECB Other Activities — MemberoftheEconomicandFinancial — Research fellow of the Centre for Committee Economic Policy Research in London — Chair of the Banking Advisory Com- — Council member of the Socie«te« Uni- mittee versitaire Europe«enne de Recherches Selected Publications Financie«res Author of numerous publications and ar- — MemberoftheGeldtheoretischerAus- ticles in the areas of monetary policy and schuss of the Verein fu‹r Socialpolitik economics — Referee for substantial economic jour- — Completing Transition: The Main nals Challenges. (Edited with L. Wolfe, Selected Publications and P. Mooslechner), Berlin/Heidel- — Reputation and Credibility in the berg, 2001 European Monetary System. In: Eco- nomic Policy 12, 1991 Axel A. Weber — The Role of Policymakers Reputation Date of Birth in the EMS Disinflations: An Empirical March 8, 1957 Evaluation. In: European Economic Present Positions Review 36, 1992 — Professor for International Economics — Long Run Neutrality and the Lucas- at the University of Cologne Critique: Empirical Evidence for — Member of the German Council of the United States and Europe. In: Economic Experts Carnegie Rochester Conference Ser- — Member of the Research Advisory ies on Public Policy 41, 1994 Board of the Deutsche Bundesbank — Germany Before and After Unifica- Professional Experience tion: The Determinants of Business — Director of the Center for Financial Cycles and Long-Term Growth. In: Studies in Frankfurt/Main from Economic Modelling 13, 1996 1998 to 2002 — Sources of Purchasing Power Dispar- — Professor for Monetary Economics ity Between the G3-Economies. In: at the Frankfurts Johann Wolfgang Journal of Japanese and International Goethe University from 1998 to Economics 2002 — Professor for Economic Theory at the University of Bonn from 1994 to 1998

309 Die Vortragenden Speakers

Arnout H.E.M. Wellink Professional Experience Date of Birth — Erste O‹ sterreichische Spar-Casse-Bank August 27, 1943 — Assistant to the Head of Personnel Present Positions from 1976 to 1980 — President of De Nederlandsche Bank — Head of Strategic Planning from N.V. since July 1, 1997 1980 to 1985 — Executive director of De Nederland- — Head of the New Issues Depart- sche Bank N.V. since January 1, 1982 ment from 1985 to 1988 Professional Experience — Securities Division/New Issues at — Leyden University (teaching assistant O‹ sterreichische La‹nderbank AG as andstaffmember,teachingeconomics; of 1988 from 1965 to 1970) — Managing director of LB-Capital — Ministry of Finance Markets as of 1989 — Staff member from 1970 to 1975 — Seniorgeneralmanager andheadofthe — Head of Directorate General for Securities Division and Asset Manage- Financial and Economic Policy ment Division at Bank Austria Aktien- from 1975 to 1977 gesellschaft as of 1991 — Treasurergeneralfrom1977to1981 Research Interests Education — Stock exchanges, Austrian capital — Studied Dutch law at Leyden Univer- market sity Education — Ph.D. in Economics from the Uni- — Awardeddegree inengineering(math- versity of Rotterdam in 1975 ematics for economics and planning) Other Activities from the Vienna Technical University — Chairman Board of Directors of the in 1975 Bank for International Settlements, — Awarded doctorate in 1981 Basle Former Activities — President Bank for International Set- — Chairman of the Supervisory Board: tlements, Basle Capital Invest, and Asset Management — Member Group of Ten Governors, Gesellschaft Basle — MemberoftheManagingBoard:Notar — Governor International Monetary &Treuhandbank, and Bank Austria Fund, Washington Kunstforum — Member Governing Council and Gen- — Member of the Supervisory Board: eral Council of the European Central Immotrust Anlagen Aktiengesell- Bank, Frankfurt schaft, Ringturm Kapitalanlagegesell- Selected Publications schaft m.b.H., BA-Industrieholding Author of numerous publications and Gesellschaft m.b.H., and Union Ver- articles in the areas of monetary policy sicherungs-AG and economics — Lecturer at the Vienna University of ManagementandBusinessAdministra- Stefan K. Zapotocky tion Date of Birth Selected Publications December 3, 1952 — Portfolio Management. In: Bank- Present Position archiv, 63, 1987 — Member of the Executive Board of — Aktienemission. In: Bankarchiv, 65, Wiener Bo‹rse AG, Joint CEO, since 1988 2000

310 Publisher and editor: Oesterreichische Nationalbank Otto-Wagner-Platz 3, A 1090 Vienna Editor in chief: Wolfdietrich Grau, Secretariat of the Governing Board and Public Relations Edited by: Scientific coordination: Eduard Hochreiter, Economic Studies Division Editorial processing: Alexander Dallinger, Economic Analysis Division Design: Peter Buchegger, Secretariat of the Governing Board and Public Relations Layout and typesetting: Hannes Jelinek, Printing Office Photographs: Foto Knoll Paper: Salzer Demeter, 100% woodpulp paper, bleached without chlorine, acid-free, without optical whiteners Printing and production: Oesterreichische Nationalbank, Printing Office Published and produced at: Otto-Wagner-Platz 3, A 1090 Vienna Inquiries: Oesterreichische Nationalbank, Secretariat of the Governing Board and Public Relations Otto-Wagner-Platz 3, A 1090 Vienna Postal address: P. O. Box 61, A 1011 Vienna Telephone: (+43-1) 404 20, ext. 6666 Fax: (+43-1) 404 20, ext. 6696 Orders: Oesterreichische Nationalbank, Documentation Management and Communications Services Otto-Wagner-Platz 3, A 1090 Vienna Postal address: P. O. Box 61, A 1011 Vienna Telephone: (+43-1) 404 20, ext. 2345 Fax: (+43-1) 404 20, ext. 2398 Internet: http://www.oenb.at

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